Senate

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Ralph Willis, MP)

General Outline and Financial Impact

TAXATION LAWS AMENDMENT BILL (NO. 4) 1994

Mining and petroleum cash bidding

Amends the Income Tax Assessment Act 1936 to provide a deduction for successful cash bids for off-shore and on-shore mineral exploration authorities and mining authorities and on-shore petroleum exploration permits and production licences on a straight-line basis over the lesser of 10 years or the life of the mine or petroleum field. The amendment extends the present deduction for successful cash bids for off-shore petroleum exploration and production permits.

Date of effect: Mining cash bids incurred on or after 1 July 1993 and petroleum cash bids incurred from the date of introduction of this Bill into Parliament.

Proposal announced: The Treasurer's press release of 23 November 1993 for onshore mining exploration authorities and on-shore petroleum exploration permits. The proposed amendments for off-shore mining exploration authorities and mining authorities and on-shore petroleum production licences have not been announced.

Financial impact: The measure is estimated to cost the revenue less than $1 million each year. Without amendment miners would incur a capital loss at the time mining ceases or a permit is surrendered, where a successful cash bid has been made by the miner.

Compliance cost impact: To enable a deduction to be allowed over the 10 years or life of the mine or field taxpayers will need to keep a record of the expenditure incurred. Any additional cost is only the cost of keeping such records over the period for which deductions will now be allowed.

Children's income

Amends sections 102AE and 102AG of the Income Tax Assessment Act 1936 relating to certain income of minors to:

•

relieve from taxation at higher rates, income derived from the investment of property transferred, directly or beneficially, to a minor as part of a legal settlement in connection with a family breakdown. This gives effect to Parliament's original intention; and

•

clarify the anti-avoidance provisions relating to arm's length returns which limit the relief available to minor beneficiaries of 'income splitting' arrangements.

Date of effect: The first amendment will apply with effect from 1 July 1979 (the date of effect of sections 102AE and 102AG). The second will apply in relation to income derived on or after 7 March 1994.

Proposal announced: The amendments were announced in the Assistant Treasurer's press release of 7 March 1994.

Financial impact: The amendment of the anti-avoidance provisions will prevent a potential loss to the revenue of around $6 million per year.

Compliance cost impact: There should be no increase in compliance costs as a result of these amendments. The clarification of anti-avoidance provisions will make the law more certain and aid ease of compliance.

Dividend imputation

Company tax instalment system changes

Amends the imputation provisions of the Income Tax Assessment Act 1936 to bring franking account debits and credits into line with recently enacted changes to the arrangements for the collection of company tax.

Date of effect: The amendments will apply to the payment and refund of company tax instalments under the new quarterly arrangements relating to income derived during:

•

the 1994-95 year of income for small and medium instalment taxpayers; and

•

the 1995-96 year of income for large instalment taxpayers.

Proposal announced: Not previously announced. The new company tax instalment arrangements were enacted by the Taxation Laws Amendment Act (No.2) 1993.

Financial impact: No significant revenue impact.

Compliance cost impact: As there will be no change to the keeping of franking account records for company tax payments and refunds there will be no additional compliance costs.

Early payments of company tax for 1993-94

Amends the Income Tax Assessment Act 1936 to ensure that where an early payment of company tax, calculated at the 33% tax rate for the 1993-94 year of income, is made in that year itself and dividends are franked at the 39% rate on the basis of that payment, the total amount of imputation credits attached to the dividends cannot exceed the company tax paid.

Date of effect: The amendment will apply to payments of company tax made after 17 February 1994 but before the end of a company's 1993-94 franking year, and to any refund of such amounts.

Proposal announced: The Assistant Treasurer's press release No.15 of 17 February 1994.

Financial impact: The amendment will prevent a potential loss to revenue of around $1 million.

Compliance cost impact: The amendment substitutes the 39% rate for the 33% rate in the calculation of franking account entries for the few companies affected by this measure. This merely means that the formula used in the calculation by companies of their franking credits will be changed. It should not therefore have an impact on compliance costs.

Return of deducted superannuation contributions

Amends section 82AAQ of the Income Tax Assessment Act 1936 to ensure that it operates to include in assessable income any amounts representing the return of deductible superannuation contributions to a sponsoring employer or to an associate of a sponsoring employer.

Date of effect: 1 July 1988.

Proposal announced: Treasurer's Press Release of 9 September 1994.

Financial impact: There is insufficient data on which a reliable estimate of the revenue impact of this amendment can be made. However, the measure will ensure that the current law operates as intended and will remove scope for substantial revenue leakage.

Cost of compliance: The measure will have no impact on compliance costs.

Credit unions

Amends the Income Tax Assessment Act 1936 to ensure that the notional taxable income of a credit union is calculated as originally intended. The notional taxable income of a credit union comprises two classes of income:

•

member interest income (other than corporate members); and

•

non-member income and corporate member interest income.

The amendment allows credit unions to offset deductions incurred in deriving non-corporate member interest income against such income. The amendment also enables a net profit from one class of income to be offset against a net loss arising from the other class of income.

The term notional taxable income is used to determine whether a credit union is a small, medium or large credit union, and therefore the rate of tax that it pays.

Date of effect: 1994-95 year of income.

Proposal announced: Not previously announced.

Financial impact: None.

Compliance cost impact: These amendments allow credit unions to make the calculations the law already requires in a more sensible way, consistently with the original intention of the Parliament. The cost of making the required calculations is not affected.

Pooled development funds

Amends the Income Tax Rates Act 1986 to reduce the rate of tax payable by pooled development funds (PDF) on income from small and medium sized enterprises to 15%. All income from other sources (defined as unregulated investment income) will continue to be taxed at a rate of 25%.

Amends the Income Tax Assessment Act 1936 to divide the income of a PDF into two classes - income from small and medium sized enterprises and other income. A PDF is a company that is registered as such under the Pooled Development Funds Act 1992. PDFs provide a mechanism by which investors can provide development capital to small and medium sized enterprises.

Date of effect: 1994-95 year of income.

Proposal announced: Working Nation White Paper of 4 May 1994.

Financial impact: The measure is estimated to cost the revenue nil in 1994-95, $3 million in 1995-96, $4 million in 1996-97 and $4 million in 1997-98.

Compliance cost impact: No significant change in cost of compliance is involved. The administration of the two classes of income for tax purposes is simplified by automatic deduction rules which reduce the burden of complex apportionment calculations by companies.

Superannuation

Amends the Income Tax Assessment Act 1936 to:

•

clarify the existing tax treatment of overseas superannuation funds and payments related to them;

•

ensure tax concessions for superannuation contributions and benefits are limited to retirement benefits which accumulate in superannuation funds that comply with Australian regulations;

•

ensure non-resident superannuation funds cannot be used to avoid Australian regulations and that Australian tax concessions are not diverted to non-residents;

•

subject to withholding tax dividend, interest and royalty income derived by non-resident entities that do not qualify as foreign superannuation funds;

•

extend the current exemption for amounts that are taxed under the foreign investment fund measures to include amounts that are assessed under the eligible termination payment provisions;

•

recoup tax concessions given to superannuation funds that change their status from complying to non-complying and impose tax on funds which change their status from non-resident to resident.

Amends the Fringe Benefits Tax Assessment Act 1986 to include employer contributions paid to non-complying superannuation funds (other than contributions paid to a non-resident superannuation fund in respect of an employee who has a temporary entry permit for a period of up to four years) as fringe benefits.

Amends the Income Tax Act 1986 to make some minor consequential amendments.

Amends the Superannuation Industry (Supervision) Act 1993 to restrict complying status to resident superannuation funds and resident approved deposit funds.

Amends the Superannuation Guarantee (Administration) Act 1992 to make some minor consequential amendments.

The Income Tax (Former Complying Superannuation Funds) Bill 1994 and the Income Tax (Former Non-Resident Superannuation Funds) Bill 1994 will also be introduced as part of this measure to impose tax on superannuation funds that change their status from complying to non-complying or from non-resident to resident.

Date of effect: Generally these amendments will apply for the 1994-95 year of income.

However, the amendments to remove the withholding tax exemptions for certain dividend, interest and royalty income of overseas superannuation funds apply in relation to income derived by a fund after the day on which the amendments receive Royal Assent or the beginning of the 1994-95 year of income of the fund, whichever is later.

The amendments to extend the current exemption for amounts that are taxed under the foreign investment fund measures to include amounts that are assessed under Subdivision AA of Division 2 of Part III will apply in relation to amounts paid on or after 1 January 1993.

The amendments to recoup tax concessions given to superannuation funds that change their status from complying to non-complying and to impose tax on funds which change their status from non-resident to resident will apply from the beginning of the 1995-96 year of income.

Proposal announced: On 30 June 1994 the Treasurer released draft provisions necessary to give effect to changes announced by the former Treasurer in his Security in Retirement Statement of 30 June 1992.

Financial impact: The revenue implications are not expected to be significant.

Compliance cost impact: The measures will generally simplify and clarify the existing tax treatment. Consequently it is expected that there should be a reduction in compliance costs for superannuation funds and related entities and for taxpayers who receive superannuation benefits from outside Australia because of the removal of confusion caused by uncertainty about the application of the current law.

The amendments to impose fringe benefits tax on contributions paid to non-complying superannuation funds may increase compliance costs for some employers because they will need to keep records about contributions they make to non-complying superannuation funds for fringe benefit tax purposes. The employers affected will be primarily multi-national companies who employ expatriate employees for more than four years. However, those employers have to keep records of this nature under the existing law in order to claim deductions. Therefore, any additional compliance costs are likely to be relatively insignificant.

Research & development activities

Amends the

Income Tax Assessment Act 1936 and the

Industry, Research and Development Act 1986 to achieve three outcomes:

(a)

lower the expenditure threshold for the 150 per cent concession to $20,000. This removes the need for shading-in the higher rate of deduction for those companies with expenditure between $20,000 and $50,000;

(b)

allow certain expenditure incurred on research and development (R&D) activities undertaken outside Australia to be eligible for the concession; and

(c)

reduce the expenditure threshold from $1,000,000 to $500,000 for companies registering jointly. This will allow smaller R&D projects to be conducted by companies jointly.

Date of effect:

(a)

The elimination of shading-in rules will apply to deductions claimed for the 1994-95 or later years of income in respect of expenditure related to R&D activities.

(b)

The deduction for expenditure incurred on approved overseas R&D activities will be available for expenditure incurred after the Bill receives Royal Assent.

(c)

The reduced expenditure threshold for syndicates will apply to syndicate registrations on or after 1 July 1994 in respect of any proposed projects starting on or after that date and including R&D activities.

Proposal announced: Working Nation White Paper of 4 May 1994.

Financial impact:

(a)

Elimination of shading-in rules is estimated to cost the revenue $2 million per annum from 1995-96.

(b)

The tax deductibility of expenditure on overseas R&D activities cannot be quantified, but it is expected to have some cost to revenue.

(c)

The reduced expenditure threshold for syndicates is estimated to cost the revenue $4 million per annum from 1995-96.

Compliance cost impact:

(a)

Elimination of shading-in rules

Compliance costs will be reduced because lowering the expenditure threshold to $20,000 will remove the shading-in calculation for R&D expenditure between $20,000 and $50,000. This amendment will simplify the law and make it easier for companies with small R&D projects to calculate the amount of their tax concession.

(b)

Expenditure on overseas R&D activities

Entitlement to a deduction for expenditure on overseas R&D activities will require companies to seek approval for such activities from the Industry, Research and Development Board. Companies will be required to keep records of the approval and of their overseas R&D activities to be able to prove, where required, that expenditure claimed as a deduction relates only to the overseas R&D activities approved.

Because taxpayers claiming deductions for R&D expenditure must show that the expenditure relates to R&D activities, most taxpayers are unlikely to have additional compliance costs beyond the cost of seeking prior approval from the Board. Some taxpayers may need minor additional records to distinguish expenditure on approved overseas R&D activities from expenditure on any other overseas R&D activities.

(c)

Reduced expenditure threshold for syndicates

Reducing the expenditure threshold will have no effect on compliance costs of companies forming syndicates for R&D activities.

Payment of interest on overpayments and early payments

Overpayments

Amends the Taxation (Interest on Overpayments) Act 1982 to broaden the range of circumstances in which interest will be paid on overpayments of income tax.

Date of effect: 1 July 1994.

Proposal announced: The Treasurer's Information Paper of August 1991 titled 'Improvements to Self Assessment - Priority Tasks'.

Financial impact: If 10% of refunds are paid 15 days late, then the amendments will cost $1.7 million in 1994-95 and $1 million in subsequent years. The reduced amount in subsequent years results from the estimate of tax payable on the interest as income.

Compliance cost impact: As the Commissioner will be calculating interest entitlements and either refunding amounts to taxpayers or applying them in discharge of other tax liabilities, there will be no cost to taxpayers.

Early payments

Amends the Taxation (Interest on Overpayments) Act 1982 to provide for payment of interest where there has been an early payment of:

•

income tax;

•

provisional tax;

•

an instalment of provisional tax;

•

an initial or final payment of tax by a company or superannuation fund; or

•

an instalment of tax by an instalment taxpayer.

Date of effect: 1 July 1994.

Proposal announced: The Treasurer's Information Paper of August 1991 titled 'Improvements to Self Assessment - Priority Tasks'.

Financial impact: The amount of interest paid will be negligible in 1994-95. Revenue costs are estimated to be $200,000 per annum in 1995-96 and then $130,000 in subsequent years, as tax is payable on the interest paid to taxpayers.

Compliance cost impact: After an entitlement to interest arises, taxpayers will have the option of either claiming the amount of interest in an income tax return or making a request to the Commissioner to calculate and refund the amount. No new records will have to be kept by taxpayers to justify the claim, since the Commissioner will have all the information necessary to calculate an interest entitlement.

Rates of interest for calculating superannuation guarantee charge

Amends the Superannuation Guarantee (Administration) Act 1992 to overcome a fall in the interest rate used to calculate superannuation guarantee charge (presently the rate prescribed in the Taxation (Interest on Overpayments) Regulations, which was reduced from 1 July 1994) by allowing for a rate of interest to be prescribed for the purposes of that Act. The amendments preserve the former rate of interest of 10 per cent by specifying that rate until such time that regulations are made.

Date of effect: 1 July 1994.

Proposal announced: Treasurer's press release of 18 July 1994.

Financial impact: The amendment will prevent a loss of around $80,000 in superannuation guarantee charges distributed for the benefit of employees.

Compliance cost impact: Because these changes merely maintain existing arrangements, there will not be any new costs for employers.

Employee share acquisition schemesTHIS MEASURE WAS WITHDRAWN FROM THE BILL

Development allowance

Amends the Development Allowance Authority Act 1992 to require the company chairperson's signature on applications for pre-qualifying certificates, and for transfers and variations of certificates of registration and pre-qualification for the development allowance.

Date of effect: Royal Assent.

Proposal announced: Not previously announced.

Financial impact: None.

Compliance cost impact: This minor amendment will not lead to an increase in compliance costs.

INCOME TAX (FORMER COMPLYING SUPERANNUATION FUNDS) BILL 1994

Imposes tax on the net previous income of superannuation funds that change their status from complying to non-complying. The liability for this tax is provided for in the measure on overseas superannuation funds and related matters included in Taxation Laws Amendment Bill (No. 4) 1994.

Date of effect: The amendments to recoup tax concessions given to superannuation funds that change their status from complying to non complying apply from the beginning of the 1995-96 year of income.

Proposal announced: On 30 June 1994 the Treasurer released draft provisions necessary to give effect to changes announced by the former Treasurer in his 'Security in Retirement' Statement of 30 June 1992.

Financial impact: The revenue implications are not expected to be significant.

Compliance cost impact: The measure on overseas superannuation funds and related matters will generally simplify and clarify the existing tax treatment. Consequently it is expected that there should be a reduction in compliance costs for superannuation funds and related entities and for taxpayers who receive superannuation benefits from outside Australia because of the removal of uncertainty about the application of the current law.

INCOME TAX (FORMER NON-RESIDENT SUPERANNUATION FUNDS) BILL 1994

Imposes tax on the net previous income of superannuation funds that change their status from non-resident to resident. The liability for this tax is provided for in the measure on overseas superannuation funds and related matters included in Taxation Laws Amendment Bill (No. 4) 1994.

Date of effect: The amendments to impose tax on superannuation funds that change their status from non-resident to resident apply from the beginning of the 1995-96 year of income.

Proposal announced: On 30 June 1994 the Treasurer released draft provisions necessary to give effect to changes announced by the former Treasurer in his 'Security in Retirement' Statement of 30 June 1992.

Financial impact: The revenue implications are not expected to be significant.

Compliance cost impact: The measure on overseas superannuation funds and related matters will generally simplify and clarify the existing tax treatment. Consequently it is expected that there should be a reduction in compliance costs for superannuation funds and related entities and for taxpayers who receive superannuation benefits from outside Australia because of the removal of uncertainty about the application of the current law.

INCOME TAX RATES AMENDMENT BILL 1994

Amends the Income Tax Rates Act 1986 to reduce the threshold at which the income of a medium credit union is subject to tax. This is a minor technical amendment which reduces the threshold from income exceeding $50,000 to income exceeding $49,999.

The alteration to the threshold aligns it with the threshold for a medium credit union in the Income Tax Assessment Act 1936 and ensures that the threshold accords with the original announcement.

Date of effect: 1994-95 year of income.

Proposal announced: Not previously announced.

Financial impact: None.

Compliance cost impact: This minor technical amendment has no impact on compliance costs.

INCOME TAX (DEFICIT DEFERRAL) BILL 1994

Imposes deficit deferral tax. The liability for deficit deferral tax is provided for in the amendments to the imputation provisions of the Income Tax Assessment Act 1936 by the Taxation Laws Amendment Bill (No. 4) 1994.

Date of effect: Royal Assent.

Proposal announced: Not previously announced.

Financial impact: Deficit deferral tax will prevent the deferral of tax that the amendments to the imputation provisions would otherwise permit.

Compliance cost impact: There will be an additional payment and reporting obligation for the relatively few companies that become liable for deficit deferral tax.

Mining and petroleum bidding

Overview

1.1 The Bill will amend Division 10 and Division 10AA of Part III of the Income Tax Assessment Act 1936 (ITAA). The amendments will give a successful cash bidder for exploration or production titles a deduction for payment of successful bids. The present law allows deductions for such bids only for offshore petroleum exploration or production titles and (in some circumstances) overseas titles. The amendments will give deductions for such bids in relation to exploration for, or production of, minerals within Australia, offshore or overseas.

1.2 Similar deductions will also be available for cash bids for petroleum titles for areas within Australia and offshore areas of Australia. Expenditure incurred relating to overseas areas subject to foreign laws will also qualify for deduction where a cash bidding regime is in existence under the foreign country's law. Under the existing petroleum cash bidding legislation, a foreign cash bidding regime must be approved by regulation in order for successful bids to qualify for a deduction. This will no longer be necessary.

1.3 The entitlement to the deduction will arise at the time when the bidder gains the right to produce from an area in relation to which the bid was made, or when the amount of the bid is paid, if this occurs later. The payment will be deductible (in general terms) in equal parts over 10 years or the life of the mine or field, whichever is less.

Summary of the amendments

Purpose of the amendments

1.4 The purpose of the amendments is to extend the existing law, which allows deductions for cash bids for offshore petroleum titles, to successful cash bids for petroleum titles in Australia or overseas and for mineral titles onshore and offshore in Australia or overseas. [Item 1 of Schedule 1]

1.5 The effect of the amendments is to make successful cash bids for exploration licences or mining licences under the Offshore Minerals Act 1994 (Cth) and exploration permits and mining leases under the Mineral Resources Act 1989 (Qld) or similar State, Territory, Commonwealth or foreign law (including petroleum legislation) deductible under new section 122BA (mining) and amended section 124ABA (petroleum). [Items 5 and 7 - 11 of Schedule 1]

Date of effect

1.6 The amendments will apply to mining cash bids paid on or after 1 July 1993 and to petroleum cash bids paid on or after the date of introduction of the Bill into Parliament. [Item 13 of Schedule 1]

Background to the legislation

Background to existing provisions

1.7 A deduction is already available under section 124ABA for successful cash bids for offshore or overseas petroleum exploration or production titles (in general terms) over 10 years or the life of the petroleum field, whichever is the lesser. Section 124ABA was introduced in 1986. It does not extend to cash bids for onshore areas.

1.8 When section 124ABA was introduced, there was no legislation in Australia providing for onshore petroleum or on or offshore mineral title cash bidding.

Basis for amendments

1.9 The Queensland Government's release by tender on 1 July 1993 of coal exploration authorities in the Bowen Basin was the first Australian onshore area made available using a cash bidding system to allocate authorities. These amendments have been introduced in response to the introduction of the Queensland cash bidding system.

1.10 This Bill will give effect to the proposal announced in the Treasurer's Press Release on 23 November 1993 to allow income tax deductions for cash bids paid for onshore petroleum and mineral exploration titles. The Bill will also give effect to the Government's intention (previously unannounced) that the legislation also apply to cash bids for onshore and overseas petroleum production titles and onshore mineral mining titles and offshore and overseas mineral exploration and mining titles.

Reason for application to foreign laws

1.11 Australian resource companies have asked for deductions to be allowed for successful cash bids overseas.

1.12 The amendments ensure that similar tax treatment is provided for all successful cash bids both for exploration and production, both for petroleum and for other minerals, within Australia and island territories of Australia and offshore of these areas and similar areas overseas.

1.13 The amendments operate so that the provisions provide no comparative advantage or disadvantage regardless of the residency of the bidder or, for Australian residents, the country where the successful mineral or petroleum cash bids were made.

Interaction with Section 124ABA

1.14 The amendments harmonise the treatment of onshore and offshore petroleum cash bidding.

1.15 Cash bids for onshore petroleum exploration and production titles, and mineral exploration and mining titles will be deductible in a similar way to cash bids for offshore and overseas petroleum exploration and production titles dealt with by the existing section 124ABA.

Relevant legislation

1.16 There are several different Acts which provide for mineral cash bidding, such as the Mineral Resources Act 1989 (Qld) and the Offshore Minerals Act 1994 (Cth). Therefore the provisions will not apply by reference to a particular Act (as existing section 124ABA does). Instead they will operate by defining in general terms the essential characteristics of a cash bidding system. Section 124ABA will be modified accordingly.

Explanation of the amendments

Terms used

1.17 The law uses the terms 'exploration permit' and 'production licence' to cover permits, leases, licences, rights, authorities and similar entitlements to explore for petroleum (exploration permit), or take petroleum (production licence). The terms 'exploration or prospecting authority' and 'mining authority' similarly refer to such entitlements as those referred to above, in relation to exploration or prospecting for minerals and in relation to the mining or taking of minerals. For convenience, this chapter sometimes uses the term 'exploration title' to refer to exploration permits and exploration authorities. The chapter also uses the term 'production title' to refer to production licences and mining authorities as a general expression for all these permits, licences, authorities or rights. [Items 5 & 11 of Schedule 1]

1.18 The term 'offshore' for the purposes of this chapter refers generally to the area from the base line of the territorial sea of Australia (generally the low tide mark of the Australian coast and its islands and territories) to the outer edge of the continental shelf (subsection 13(2) of the Offshore Minerals Act 1994 (Cth)).

1.19 Section 124ABA continues to apply to cash bids for petroleum exploration and production titles, offshore from Australia. The amendments in this Bill extend its operation to onshore areas of Australia and to overseas areas. [Items 7 to 11 of Schedule 1]

Structure of the amendments

1.20 This Bill will introduce new provisions into Division 10 of Part III of the ITAA for mining cash bids and amend Division 10AA of Part III of the ITAA for petroleum cash bids. It will also make an amendment to Division 10 to extend roll-over relief to mining cash bidding amounts.

1.21 The overall structure of the proposed amendments is similar to that in Division 10AA for offshore petroleum cash bids. The amendments to section 124ABA, in general, retain the existing basis of operation of the provision and add to it so that it operates as extensively in relation to petroleum as section 122BA does in relation to mining.

1.22 The different elements of the proposed legislation and the comparative provisions for offshore petroleum exploration and production titles and the new provisions for minerals and onshore petroleum exploration and production titles are set out in the table below.

Existing provisions

1.23 The cash bidding legislation governing the issue of offshore petroleum exploration permits and production licences is contained in the Petroleum (Submerged Lands) Act 1967 (Cth) (PSLA Act). The existing section 124ABA of the ITAA is based on the cash bidding system in the PSLA Act. In particular, terms such as 'exploration permit production licence', 'retention lease' and 'permit cash bidding payment' are defined by reference to the PSLA Act.

Operation of new provisions

1.24 Although they will operate in a similar way to existing section 124ABA, the amendments to section 124ABA and the new section 122BA are structured differently. There is no uniform legislation that deals with on-shore and overseas petroleum cash bidding and onshore, offshore and overseas mineral cash bidding. Accordingly the provisions will operate so that they provide tax deductibility for successful cash bids under any system having the essential elements of a cash bidding system, rather than being restricted to successful cash bids under particular laws.

Deductions available

1.25 Deductions for successful cash bids will be (in general) allowable over the lesser of ten years or the life of the mine or petroleum field. For mining cash bids, this is because they are included in allowable capital expenditure under section 122A [Items 2 and 3 of Schedule 1; new paragraph 122A(1)(da)]. Petroleum cash bids receive the same treatment because they are included in allowable capital expenditure under section 124AA (paragraph 124AA(2)(ba)). Successful cash bids are not treated as exploration expenditure, even if they are paid for the grant of exploration or prospecting authorities. This treatment follows the established approach in section 124ABA. It is consistent with the character of cash bids as an estimate of the likely minimum value of the right to produce from an area.

Overview of provisions - deductions mining and petroleum

1.26 A deduction will only be available when a right to produce is obtained for the area or part of the area for which the original authority was taken out.

1.27 Successful cash bids are taken to be incurred (if at all) only when they are paid, or when the first related title to produce minerals or petroleum is granted, whichever happens later.

1.28 The deduction will trace the connection between exploration area and any part of that area for which a right to commence production is obtained. If necessary, the deduction will trace through successive interests including 'intermediate titles'.

Why a cash basis of deduction applies to cash bids?

1.29 Whether a taxpayer must account for tax purposes on a cash or an accruals basis, cash bid expenditure can not be taken into account for income tax purposes until paid. This treatment is similar to the deductibility of other exactions, such as rates and taxes (section 72), petroleum resource rent tax payments (section 72A), and subscriptions to associations (section 73). Such exactions are taken into account for tax purposes only when paid.

Deductions for mining and petroleum mining

1.30 Successful cash bids are to be deductible over the lesser of 10 years or the life of the mine or field, from the time they are taken to be incurred. Detailed provisions will govern the point at which successful cash bids are taken to be incurred.

Cash bid payments for mining authorities

1.31 Successful cash bid payments for a mining authority (MA) are taken to be incurred under new subsection 122BA(2) [item 5 of Schedule 1]. Where the payment is made before the grant of the MA it will be deductible at the time of the grant of the MA under new paragraph 122BA(2)(a). Where the payment is made on or after the grant of the MA it will be deductible at the time of payment under new paragraph 122BA(2)(b).

Cash bid payments for petroleum production licences

1.32 The corresponding provision in section 124ABA to new subsection 122BA(2) is subsection 124ABA(1B). Subsection 124ABA(1B) operates in relation to both on and offshore petroleum production licences in the same way as new subsection 122BA(2). No amendments are made to subsection 124ABA(1B) by this Bill.

Cash bid payments for mining exploration authorities (EA's)

1.33 Where a cash bid payment is made for an EA after the grant of the MA related to the EA, new subsection 122BA(3) [item 5 of Schedule 1] operates to ensure the cash bid is taken to be incurred at the time of the payment. The subsection requires that in order to qualify for a deduction, an exploration or prospecting cash bidding payment [item 5 of Schedule 1; new subsection 122BA(12)] must have been made for the grant of the exploration authority. This requirement ensures that the payment was really made as a consequence of a cash bidding process.

1.34 Where a payment is made for an EA before the grant of a MA new subsection 122BA(4) [item 5 of Schedule 1] applies to provide that the cash bid is deductible at the time the MA is granted. New paragraph 122BA(4)(b) requires that the MA is the first or only MA that is related to the relevant cash bidding exploration authority. This ensures that where two or more MAs are taken out that relate to the same EA area then the provision is triggered by the registering of the first such MA. Deductions commence when the right to produce from any part of the area is obtained.

1.35 New subsection 122BA(8) explains the circumstances in which a MA is taken to be related to an EA. It is also necessary that before the grant of the MA the person who holds an interest in the EA has an eligible cash bidding amount (ECBA) in respect of the EA. By requiring that an ECBA is held in the EA, the provision ensures that the holder has a current financial interest in the EA.

Cash bid payments for petroleum exploration permit (EPs)

1.36 The corresponding provisions in section 124ABA to new subsections 122BA(3) & (4) are subsections 124ABA(1A) & (1). These subsections operate in relation to both on and offshore petroleum exploration permits in the same way as new subsections 122BA(3) & (4). No amendments are made to subsections 124ABA(1A) & (1) by this Bill.

When is a cash bid incurred?

1.37 Where a payment is incurred for a successful cash bid on or after the grant of a production licence or mining right it will be deemed to have been incurred at the time of its payment. If the amount of the successful cash bid is paid in instalments then each instalment will be deemed to have been incurred at the time of that instalment payment. This is because no amount can be incurred until paid. [Mining - item 5 of Schedule 1; new paragraph 122BA(2)(b) & new subsection 122BA(3); petroleum - subsection 124ABA(1A) & paragraph 124ABA(1B)(b)]

1.38 If the payment is made before the grant of the production licence or mining authority then it will be deductible at the time of the grant of the related production licence or mining authority. [Mining - item 5 of Schedule 1; new subsection 122BA(2)(a) & (4); petroleum - subsection 124ABA(1) & paragraph 124ABA(1B)(a)]

Definitions used in new subsection 122BA(12) & amended subsection 124ABA(6)

1.39 For the purposes of the amendments to section 124ABA and the new section 122BA, the definitions used are general in nature and do not refer to the mining and petroleum laws applying in different countries, or in the Commonwealth law and the laws of states and territories.

1.40 The definitions below are dealt with in the same order that they appear in new subsection 122BA(12). Where there is a corresponding amended definition in amended subsection 124ABA(6), the definition is explained after the mining provision definition to which it relates.

Cash bidding exploration or prospecting authority

1.41 The term 'cash bidding exploration or prospecting authority' is referred to in new paragraphs 122BA(4)(b), 122BA(5)(a) and 122BA(7)(a) [item 5 of Schedule 1]. It defines an exploration authority for which a payment is made which arises from a successful cash bid for the authority. The term is referred to as a cash bidding exploration authority in this chapter. The corresponding definition in subsection 124ABA(6) is 'cash bidding exploration permit'. It is defined in the same terms and to the same effect.

Exploration or prospecting authority

1.42 The term 'exploration or prospecting authority' (EA) [item 5 of Schedule 1; new subsection 122BA(12)] includes similar authorities issued under Australian and foreign law. This would include 'exploration permits' issued under the Offshore Minerals Act 1994 (Cth), and 'exploration licences' issued under the Mineral Resources Act 1989 (Qld) and similar mining legislation. The term is referred to as an exploration authority in this chapter. The corresponding definition in amended subsection 124ABA(6) [item 11 of Schedule 1] is 'exploration permit'.

Exploration permit

1.43 The definition of exploration permit (EP) is amended in section 124ABA to include most of the corresponding definition of an EA in new subsection 122BA(12). The existing definition of the term is also retained and will apply to onshore areas by referring to the PSLA Act. Under the existing definition, an EP that has been granted under a foreign law can only satisfy the definition where there is a declaration of a regulation under subsection 124ABA(7) that the particular foreign law is equivalent to the PSLA Act.

1.44 Under the amended definition where no regulation has been made under the subsection concerning a particular foreign law, subparagraph 124ABA(6)(b)(i) of the definition of an EP will operate to include within the definition permits granted under the law of a foreign country. Such permits are however required by subparagraph (b)(ii) to authorise exploration or prospecting for petroleum. Subparagraph (b)(i) will specifically exclude permits from qualifying under that definition where the permit has been granted under a foreign law which has been declared by regulation under paragraph 124ABA(7)(a).

1.45 The definition of an EP differs from that of an EA as follows:

•

a petroleum permit can qualify under the definition where it is issued under the PSLA Act;

•

subsection 124ABA(7) allows for the declaration by regulation that a foreign law is equivalent to the PSLA Act and accordingly this would potentially allow a foreign permit to satisfy the requirements of section 124ABA; and

•

permits issued under a foreign law declared by regulation under paragraph 124ABA(7)(a) are excluded from qualifying under paragraph (b).

1.46 Currently no regulations have been made under paragraph 124ABA(7)(a).

Exploration or prospecting cash bidding payment

1.47 Reference is made to an 'exploration or prospecting cash bidding payment' (ECBP) in new paragraph 122BA(3)(a) [item 5 of Schedule 1] and in the definition of a cash bidding exploration authority [item 5 of Schedule 1; new subsection 122BA(12)]. New paragraph (a) of the definition in new subsection 122BA(12) [item 5 of Schedule 1] defines an ECBP as a payment made for an exploration authority granted under a process with the characteristics of a cash bidding or tendering system such as those defined in the Offshore Minerals Act 1994 (Cth), or the Mineral Resources Act 1989 (Qld) or similar legislation.

1.48 New paragraph (a) of the definition provides that the characteristics of a cash bidding system include the auctioning or tendering of an authority or a public invitation to apply for the authority within a set period. The corresponding definition in subsection 124ABA(6) is 'permit cash bidding payment'. It is defined in the same terms and to the same effect.

1.49 New paragraph (b) specifies certain payments (application fees and deposits) made in association with a cash bid which do not qualify as an ECBP. Only amounts that are directly paid for the grant of a cash bidding exploration authority will be deductible. Payments associated with the grant will not be deductible. Under the Queensland cash bidding regime associated payments would include, the application fee, a security deposit, rent, and may include a rate of royalty to be paid if production goes ahead. The corresponding exclusion is found subparagraph (c)(ii) of the definition in subsection 124ABA(6).

1.50 New paragraph (c) of the definition of ECBP requires that the payment made under the cash bidding system must be in respect of miners or businesses carrying on exploration or prospecting activities. This is designed to prevent other bidding and tendering systems which were not created for tendering etc. of exploration authorities for minerals exploration qualifying under this definition. The corresponding exclusion is found in subparagraph (c)(iii) of the definition in subsection 124ABA(6).

What does a cash bidding payment include?

1.51 Cash bidding amounts under the new provisions will include:

•

amounts paid as a cash bid for the grant of an exploration title;

•

any deposit paid upon the making of a cash bid where the bid is successful and to the extent that the deposit is applied in payment or part payment of the amount of the successful cash bid;

•

the balance of the successful cash bid for which a deposit has been paid; and

•

an amount paid as an instalment of a successful cash bid, where the payment of the instalment is agreed to by the taxpayer and the authority controlling bidding.

1.52 Cash bidding payments paid by instalment, where agreed between the bidder and the controlling authority, qualify under the new provisions for the same treatment as agreements for the payment of cash bids in sub-subparagraph (a)(iii)(A) of the definition of licence cash bidding payment in subsection 124ABA(6). If there is no agreement to the payment of instalments, an amount will not be paid as an instalment of a successful cash bid - it will only be tendered towards the payment due, and will be a part payment of the cash bid only if and when it is accepted as such.

Mining authority

1.53 The definition of the term 'mining authority' (MA) in new subsection 122BA(12) [item 5 of Schedule 1] requires that the authority authorise mining operations for the extraction of minerals from their natural site. The definition includes mining titles issued under the Offshore Minerals Act 1994 (Cth), and the Mineral Resources Act 1989 (Qld) and similar Australian or foreign mining legislation.

1.54 Where an authority simply authorises the taking of mineral samples it will not meet the definition of a MA. This ensures that exploration authorities, which generally authorise the taking of such samples, do not qualify as mining authorities. Otherwise deductions could begin before the taxpayer had any right to produce petroleum or minerals. The corresponding definition in amended subsection 124ABA(6) [item 11 of Schedule 1] is 'production licence'.

Production licence

1.55 The definition of a production licence in amended subsection 124ABA(6) applies in relation to foreign law in the same manner as the definition of an exploration permit in amended section 124ABA(6). The definition operates on a similar basis to that of a mining authority in new section 122BA, except that:

•

reference is made to the PSLA Act in paragraph (a), continuing the reference made before these amendments;

•

subsection 124ABA(7) allows for the declaration by regulation that a foreign law is equivalent to the PSLA Act and accordingly this would also potentially allow a foreign licence to satisfy the requirements of section 124ABA; and

•

licences issued under a foreign law declared by regulation under paragraph 124ABA(7)(a) are excluded from qualifying under paragraph (b) of the definition.

1.56 Currently no regulations have been made under paragraph 124ABA(7)(a).

Mining cash bidding payment

1.57 Reference is made to a 'mining cash bidding payment' (MCBP) in new subsection 122BA(2) [item 5 of Schedule 1]. New paragraphs (a) to (c) of the definition in new subsection 122BA(12) are designed to operate in a similar manner to those in the definition of an exploration cash bidding payment (ECBP). The difference between a MCBP and an ECBP is that the former refers to a payment for a mining authority whilst the latter refers to a payment for an exploration authority. The corresponding definition in subsection 124ABA(6) is 'licence cash bidding payment'.

Retention authority

1.58 The term 'retention authority' in new subsection 122BA(12) [item 5 of Schedule 1] refers to an authority such as a 'retention licence' issued under the Offshore Minerals Act 1994, and a 'mineral development licence' issued under the Mineral Resources Act 1989 (Qld) and similar licences which may be issued under other legislation.

1.59 The definition does not specify the activities allowed under a retention authority (RA) because of the wide variations between various Acts. Instead the definition refers to a condition which must exist for the grant of a RA. That is that an exploration authority or a RA (or a part interest) must be held by the person over all the area for which the RA is to be granted. The corresponding definition in amended subsection 124ABA(6) is 'retention lease'. [Item 11 of Schedule 1]

Retention lease

1.60 The definition of a retention lease in subsection 124ABA(6) is amended so that it operates in a similar way to the definition of retention authority in new subsection 122BA(12) except that:

•

the reference is made to the PSLA Act in paragraph (a) as the provision continues the reference that was made before these amendments;

•

subsection 124ABA(7) allows for the declaration by regulation that a foreign law is equivalent to the PSLA Act and accordingly this would potentially allow a foreign RA to satisfy the requirements of section 124ABA; and

•

a RA issued under a foreign law is excluded from qualifying under paragraph (b) of the definition where it has been declared by regulation under paragraph 124ABA(7)(a).

1.61 Currently no regulations have been made under paragraph 124ABA(7)(a).

Blocks

1.62 Section 124ABA(6) defines a block based on its meaning in the PSLA Act. The term is used as a measure of area in defining permit areas under that Act. No equivalent term is used in the amendments to section 124ABA and new section 122BA. Instead the term 'area' is used on the basis of its normal meaning. This means that taxpayers are not restricted to cash bidding arrangements in relation to areas that have been defined in a particular way. Amendments to paragraphs 124ABA(5)(a) to (c) refer to the term area in addition to the use of the term block. [Item 5 of Schedule 1; subsections 122BA(8) to (10)]

When is a MA related to an EA?

1.63 New subsection 122BA(8) [item 5 of Schedule 1] provides the test to ensure that an EA is related to a MA. This test of relationship is used in new paragraphs 122BA(3)(b), (4)(b), & (5)(a). Where the grant of an MA results in an EA, or a retention authority (RA) related to the EA, ceasing to have application for the whole or part of the area over which the MA is granted, then the necessary relationship exists. This test ensures that a deduction under new subsection 122BA can not be granted solely because a MA is granted to the holder over an unrelated area even after the successful cash bid for an EA.

1.64 The test is based on the proposition that a production right supersedes any related exploration title or retention title so far as they cover its area. This is a normal feature of legal controls on exploration and production, where they are separately controlled.

1.65 The corresponding provision of amended paragraph 124ABA(5)(a) [item 7 of Schedule 1] expands the existing provision by also including the alternate test provided for in new subsection 122BA(8). The amended paragraph retains the existing test that refers to blocks issued under the PSLA Act; that test might not have been adequate to apply to comparable connections under other laws.

When is a RA related to an EA?

1.66 New subsection 122BA(9) [item 5 of Schedule 1] provides a similar test of relationship to new subsection 122BA(8) to determine whether a RA is related to an EA. The test is based on the proposition that a retention title supersedes any related exploration titles so far as they cover its area. This is a normal feature of legal controls on exploration and production, where they allow for the intervening holding of retention titles.

1.67 The corresponding provision of amended paragraph 124ABA(5)(b) [item 7 of Schedule 1] expands the existing provision by also including the alternate test provided for in new subsection 122BA(9). The operation of amended paragraph 124ABA(5)(b) is similar to new subsection 122BA(9).

Renewal of EA or RA

1.68 New subsection 122BA(10) [item 5 of Schedule 1] provides that where an RA or EA is renewed the renewed authority is considered to be the original authority. The most obvious situation to which this will apply is where the area covered by the original authority and the renewed authority is exactly the same.

1.69 Where the renewed authority covers only a portion of the original authority area, but no area outside the original authority area, then the provision will apply to deem the renewed authority to be the original authority.

1.70 Where an authority covers the whole or a part of the original authority area together with an area outside the original authority area, then the provision will only deem the authority to be the original authority in so far as it is a renewal of the original authority. This can only be in respect of the area in common between the authorities.

1.71 The corresponding petroleum provision is contained in paragraph 124ABA(5)(c) and has the same effect.

Definition of qualifying interest

1.72 New subsection 122BA(11) [item 5 of Schedule 1] defines the term qualifying interest. This term is used in new paragraphs 122BA(4)(c) & (5)(a) & (7)(a)&(b), new subparagraph 122BA(6)(b)(i) and new paragraph 122JAA(4)(da). The term refers to a whole or partial interest held in an EA or an RA which is related to an EA. The corresponding petroleum provision is contained in paragraph 124ABA(5)(d).

1.73 This ensures that cash bidding amounts can be transferred with interests in the exploration title or retention title to which they relate, during the period before they are taken to be incurred. It also ensures that such amounts cannot be transferred without an interest in the exploration title or retention title to which they relate. The relevant provisions are discussed below at paragraphs 1.87 to 1.107.

Entitlement to deduct cash bidding amount

Example 1 - Cash bid payments for exploration permits

1.74 Excoal Co is interested in exploring for coal in the Bowen Basin, with a view to mining any suitable deposits that it finds. It participates in the Queensland cash bidding regime for the Bowen Basin, making a number of cash bids for different exploration authorities to be released by the Government in the 1993/94 year of income. It submits a deposit for each of the bids, work plans for each area and the required fees.

Bid data

Exploration Authority for Coal, Area A: $4 million Deposit $0.4 m

Exploration Authority for Coal, Area B: $6 million Deposit $0.6 m

Exploration Authority for Coal, Area C: $1 million Deposit $0.1 m

1.75 Excoal succeeds in its bids for exploration authorities (EA's) over areas A and B, but fails in its bid for an authority over Area C. The Queensland Government requires that the balance of the cash bids, a security deposit, and rent for the first twelve months of each authority granted, be deposited within 28 days of the announcement of successful bids before any authorities are granted. The security deposit covers the cost of restoration work on the authority areas necessary after exploration has ceased. The deposit for the unsuccessful bid for Area C is refunded to Excoal, but the application fee of $50 is not refundable.

1.76 Excoal takes up both exploration authorities for area's A and B, and commences exploration work.

How the legislation applies

1.77 EAs A, B and C are 'exploration authorities' . EAs A and B are 'cash bidding exploration authorities' (CBEA). EA C is not a CBEA because no payment has been made for the grant of the exploration authority.

1.78 The amounts of $4m and $6m paid respectively for EA's A & B are 'exploration cash bidding payments'.

1.79 Excoal's 'eligible cash bidding amount' [item 5 of Schedule 1; new subsections 122BA(7) & 122BA(12)] is the sum of the deposit and balance of the cash bids for EAs A and B, or a total of $10 million. The expenditure related to EA A and B will not be deductible under the new provisions (if at all) until Excoal Co obtains mining authorities which cover all or a part of the authority areas.

Allowable deductions

1.80 Neither the exploration authority application fees nor the rental outgoing nor the security deposit paid by Excoal are cash bidding amounts. No deduction can be claimed for the application fees because the outgoing is capital in nature. The rent for the first 12 months for areas A and B is not a cash bidding amount but would qualify for deduction under subsection 51(1) of the ITAA. The security deposit does not qualify as a cash bidding amount as it is not applied in part payment of the amount of the successful cash bidding payment due.

Authority remains partly paid

1.81 Had Excoal refused the offer to take up one of these authorities by failing to pay the balance of the cash bidding amounts, the Queensland Government would have retained the cash bid deposit for that authority.

1.82 This forfeited amount is not an exploration cash bidding payment because no payment has been made which results in the grant of an exploration authority.

Forfeiture of authority

1.83 Excoal discovers coal on both EAs A and B. It decides after investigation that EA B is not economic, and forgoes any future rights to the authority in the 1995/96 income year.

1.84 The eligible cash bidding amount of $6 million on EA B can never be claimed by Excoal as allowable capital expenditure because no mining right has been granted in respect of the whole or a part of EA B. (It may then be considered for deduction or as giving rise to a capital loss, depending on the circumstances.)

Grant of mining right

1.85 Excoal applies for a mining right on part of the area covered by EA A. This is granted by the Queensland Government in the 1996/97 income year.

1.86 The cash bidding amount of $4 million incurred by Excoal in the 1993/94 income year is included in the allowable capital expenditure of Excoal in the 1996/97 income year. It is deductible under section 122DG against Excoal's assessable income on a modified straight-line basis (in general terms) over the lesser of 10 years or the estimated life of the coal mine.

Transfer of cash bidding amounts

Overview of transfer provisions - mining and petroleum

1.87 The owner of a mining or petroleum exploration title can by agreement transfer their right to a deduction for a successful cash bid in relation to the title to a purchaser of their interest, or of part of their interest, in the title.

1.88 The vendor and purchaser may sign a written agreement transferring part or all of the vendor's entitlement to the cash bidding amount. Where this occurs the cash bidding amount will be deductible in the purchaser's hands in exactly the same way as it would have been deductible in the hands of the vendor. Cash bid amounts may be transferred to any number of successive purchasers.

1.89 Once a production right has been granted, any successful cash bid that has been paid forms part of allowable capital expenditure. The existing transfer rules of Divisions 10 and 10AA apply to such expenditure, and no special rules are required by these amendments in those circumstances.

Detailed explanation - transfer provisions - mining and petroleum

1.90 The mining transfer regime for cash bidding amounts is similar to the expenditure transfer regime in section 122B which deals with the transfer of mining exploration rights or information. Section 122B will apply where a sale of an interest takes place once a mining right has been granted.

Transfer of mining cash bid amounts

1.91 The proposed amendments provide that the entitlement to deduct a cash bidding amount will be transferable to a purchaser of an interest in the relevant exploration authority or any related retention authority. The amendments cover only the period before the first issue of a related mining authority; existing section 122B will apply after that period. [Item 5 of Schedule 1; new subsections 122BA(5) & (6)]

Transfer of eligible cash bidding amount

1.92 New subsection 122BA(5) [item 5 of Schedule 1] provides a number of tests that must be met before someone entitled to an eligible cash bidding amount can transfer any of that entitlement to a purchaser. New paragraph 122BA(5)(a) requires that:

•

the successful cash bidding expenditure to be transferred must have been paid; and

•

the purchaser of the interest in the exploration authority or related retention authority must obtain that interest from the vendor before any related mining authority has issued. That interest is defined as a qualifying interest which is defined in new subsection 122BA(11).

1.93 The term qualifying interest ensures that transfer agreements can be made at any time before the first related mining right is granted. It means that interests in an exploration authority, its renewal, a related retention authority, or its renewal all carry with them the eligible cash bidding amount and that amount (or part of it) can be transferred to someone taking the authority or an interest in it.

1.94 Such transfers must be made by agreement of the vendor and purchaser, and may transfer all or only a part of the vendor's entitlement to an ECBA.

1.95 New paragraph 122BA(5)(b) requires that an eligible cash bidding amount (ECBA) relating to the EA must be held by the vendor. The term ECBA is defined in new subsection 122BA(7). The effect of this term is to provide a test to ensure that the vendor has, prior to the sale of the EA (or part of it), an interest in related cash bidding expenditure which has not been wholly transferred to other persons. A vendor can not transfer an amount to a purchaser that exceeds the vendor's entitlement to an ECBA.

Details of transfer agreement

1.96 New paragraph 122BA(6)(a) provides the signing requirements for an agreement made under new subsection 122BA(5). Such agreements must be in writing and must be signed by, or on behalf of, the parties.

1.97 New paragraph 122BA(6)(b) [item 5 of Schedule 1] sets out the amount of expenditure that may be transferred. The maximum amount that can be transferred will be the amount paid by the purchaser to acquire the interest in the EA as reduced by any previous transfer of expenditure in relation to the acquisition of the interest. This is provided the amount does not exceed the vendor's ECBA entitlement. The cash bid amount will be deductible in the purchaser's hands in exactly the same way as it would have been deductible in the hands of the vendor.

1.98 New paragraph 122BA(6)(c) sets out the time period within which an agreement may be made. The paragraph provides for the completion of agreements within 2 months after the end of the relevant year of income for the purchaser. A discretion is provided to the Commissioner to enable this time period to be extended, for example where the period is exceeded inadvertently or other special circumstances arise.

Transfer of petroleum cash bid amounts

1.99 The current legislation provides for the transfer of entitlements to cash bidding amounts for offshore petroleum exploration permits (subsections 124ABA(2) & (3)). The proposed amendments to subsection 124ABA extend the application of subsections 124ABA(2) & (3) to onshore petroleum cash bidding amounts for exploration permits. No amendment is made to subsections 124ABA(2) & (3) themselves. There is no difference in the method of operation of subsections 124ABA(2) & (3) compared to the corresponding mining provisions of new subsections 122BA(5) & (6).

Overview of eligible cash bidding amount

1.100 A taxpayer's eligible cash bidding amount (ECBA) is the total of the successful cash bids paid by the taxpayer in relation to a particular exploration authority (or related retention authority), plus any amounts already transferred to the taxpayer in relation to the authority, less any amounts transferred by the taxpayer in relation to the authority.

Detailed explanation of definition of eligible cash bidding amount in mining provisions

1.101 The amount of a person's ECBA at any time ('test time' in these amendments) is calculated as follows:

ECBA = (A+B)-C


where -

•

A = amount of any payments made up to that time by the person as the original holder of the exploration authority (EA) for the successful cash bid for the EA or original interest in it;

•

B = all amounts contained up to that time in expenditure transfer agreements under new subsection 122BA(5) enabling the person to acquire expenditure entitlements together with an interest or interests in the EA;

•

C = all amounts contained up to that time in expenditure transfer agreements under new subsection 122BA(5) enabling the person to dispose of expenditure entitlements together with an interest in the EA.

1.102 For the purposes of calculating A the taxpayer need not still hold the interest in the EA for which the successful bid was paid. For the purposes of B and C the relevant amount is determined on the basis of acquisitions that have occurred. Where the sum of A and B does not exceed C then no ECBA will arise.

Explanation of definition of eligible cash bidding amount in petroleum provisions

1.103 Subsection 124ABA(4) of the petroleum provisions defines ECBA. This subsection is not amended by this Bill. There is no difference in the method of operation of the subsection compared with the corresponding mining provision in new subsection 122BA(7).

Example 2 - Sale of 100% interest in an EA

1.104 Take the facts in Example 1. Rather than relinquishing EA B (which it considered uneconomic to develop), Excoal sells its entire interest in the authority to Brave Co for $2 million. The two parties agree to transfer as much as possible of Excoal's cash bidding entitlement of $6 million to Brave Co.

1.105 Before the sale Excoal had an 'eligible cash bidding amount' under new subsection 122BA(7) of $6m. The two parties agree to transfer as much as possible of Excoal's cash bidding entitlement of $6 million to Brave Co. [Item 5 of Schedule 1]

1.106 Brave Co therefore gains an entitlement to a cash bidding deduction of $2m from Excoal. From the time of the sale, Excoal ceases to have an 'eligible cash bidding amount' under new subsection 122BA(7), having disposed of a 100 percent interest in the authority. Brave Co acquires an 'eligible cash bidding amount' of $2m.

Example 3 - disposal of part interest in an EA

1.107 Take the facts in Example 2. Rather than disposing of a 100 percent interest in the authority Excoal disposes of a 50 percent interest in it for $2m to a joint venture partner with the intention of developing it jointly.

Brave Co's maximum entitlement to a cash bidding deduction is calculated as follows:

•

the lesser of the amount paid by it to acquire the interest in the authority as reduced by any amounts already specified in agreements concerning the acquisition, and the eligible cash bidding amount of Excoal.

•

as no amounts have been specified Brave Co can gain an entitlement of up to $2m. Brave Co and Excoal agree to such a transfer.

Excoal's remaining entitlement to such a deduction is calculated as follows:

•

the excess of the amount originally paid for the authority over the sum of amounts specified in agreements for transfer of expenditure to purchasers.

($6m-$2m)=$4m


Hence Excoal's remaining entitlement is $4m.

Roll-over relief

Overview of roll-over relief

1.108 Roll-over relief can be gained when the owner of a mining or petroleum exploration title transfers the right to a deduction for the title to the purchaser of the interest in the title.

1.109 Roll-over relief applies where transfers occur to any number of successive purchasers.

Explanation of roll-over relief in mining provisions

1.110 Sections 122JAA will provide roll-over relief on the disposal of an interest in an eligible cash bidding exploration title where the requirements of the section are met. New paragraph 122JAA(4)(da) [item 6 of Schedule 1] ensures that where property transferred is a qualifying interest in a cash bidding exploration authority and the transferor had an entitlement to a cash bidding amount in respect of the authority, then the transferee will be taken to have that entitlement. This is achieved by deeming the transferor and transferee to have specified that cash bidding amount in an agreement under new section 122BA.

1.111 The effect of the provision is to provide roll-over relief where capital gains tax roll-over relief would have applied or an election for roll over relief is made under section 122R. Where the provision has application no balancing charge gain or loss will crystallise under section 122K.

Explanation of roll-over relief in petroleum provisions

1.112 Section 124AMAA, by virtue of paragraph 124AMAA(4)(e), provides roll-over relief on the disposal of an interest in an eligible cash bidding exploration title where the requirements of the section are met. This Bill does not amend this section. There is no difference in the method of operation of the section compared to the corresponding mining provision of new paragraph 122JAA(4)(da).

Foreign laws

1.113 The new provisions will provide that where mining or petroleum titles are granted under cash bidding systems under foreign laws, then a deduction will be available under these provisions. This is achieved by including in the definitions of exploration permit/authority, production licence/mining authority and retention lease/retention authority in new subsection 122BA(12) [item 5 of Schedule 1] and amended subsection 124ABA(6) respectively, authorities issued under the law of a foreign country.

Date of effect

1.114 The amendments will apply to cash bid payments for mineral exploration authorities and mining authorities paid on or after 1 July 1993. The amendments to cash bids for petroleum exploration and production licences will apply to cash bids paid on or after the date of introduction of these amendments into Parliament. [Item 13 of Schedule 1]

Consequential amendments

1.115 New paragraph 122A(1)(da) is inserted to include within the definition of allowable capital expenditure in Division 10, expenditure incurred under new section 122BA. [Item 3 of Schedule 1]

1.116 Subsection 122B(1) is amended to exclude from amounts that may be transferred under the section for the purchase of a prospecting right, expenditure that may be transferred under new section 122BA. [Item 4 of Schedule 1]

1.117 Subsection 170(10) is amended to ensure that section 170 does not restrict the calculation of an eligible cash bidding amount in new subsection 122BA(7) [item 12 of Schedule 1]. This ensures that consequential adjustments of the quantum of ECBAs may take place where notices are given out of the time periods for amendment which section 170 would otherwise impose.

Children's Income

Overview

2.1 The Bill will reinstate Parliament's original intention to relieve, from taxation at higher rates, income derived by a minor from the investment of property transferred to or beneficially to a minor as part of a legal settlement in connection with a family breakdown.

2.2 The Bill will also clarify the anti-avoidance provisions which limit the relief available to minors where they are beneficiaries of 'income splitting' arrangements.

Summary of the amendments

Purpose of the amendments

2.3 The amendments will make it clear that income derived by a minor, directly or beneficially, from the investment of property transferred to, or beneficially to, the minor in the event of a family breakdown qualifies as 'excepted assessable income' or 'excepted trust income'. In this respect the amendments will replace the ineffective previous provisions and will update the law to take into account the range of family breakdowns including breakdowns of defacto relationships and cases where people are responsible for the maintenance of children because they are not living together. [Paragraph 1(a) of item 14 of Schedule 1]

2.4 The amendments will also clarify the existing anti-avoidance provisions to ensure that the amount qualifying for relief from the Division 6AA rates is confined to no more than an arm's length rate of return. They will also clarify the requirement that property be transferred to, or beneficially to, a minor before income from its investment is capable of being excepted income. [Paragraph 1(b) of item 14 of Schedule 1]

Date of effect

2.5 The amendments referred to in paragraph 1(a) will apply to income derived from 1 July 1979. [Subitem 21(1) of Schedule 1]

2.6 The amendments referred to in paragraph 1(b) will apply in relation to income derived on or after 7 March 1994. [Subitem 21(2) of Schedule 1]

Background to the legislation

2.7 Division 6AA of Part III of the Act (which comprises sections 102AA to 102AJ) applies to tax at higher rates most income of minors. These provisions are designed to prevent taxpayers diverting income or the capacity to earn income to children for the purpose of avoiding or reducing income tax.

2.8 A minor who comes within Division 6AA is referred to as a prescribed person. The whole of such a minor's assessable income other than 'excepted assessable income' is subject to Division 6AA. Division 6AA also applies to so much of such a minor's share of the net income of a trust estate as is not 'excepted trust income' in relation to the minor.

2.9 The terms 'excepted assessable income' and 'excepted trust income' are defined under subsection 102AE(2) and subsection 102AG(2) respectively to be certain categories of income. Subsection 102AE(2) deals with income derived directly by a minor while subsection 102AG(2) deals with income derived by a trustee on behalf of the minor. The concepts of 'excepted assessable income' and 'excepted trust income' were included as a way of recognising that not all income of minors, whether derived directly or through trusts, should be taxed at a higher rate.

2.10 The definition of 'prescribed person' under section 102AC excludes some minors from the scope of the Division. It recognises that not all minors should have any of their income taxed at higher rates. So certain minors engaged in full-time work, minors who are double orphans without certain support and minors with disabilities that have particular effects or consequences are not 'prescribed persons' to whom the Division applies.

2.11 Broadly, subsections 102AE(2) and 102AG(2) list the following as 'excepted assessable income' or 'excepted trust income' qualifying for relief from the higher Division 6AA rates:

•

employment or business income;

•

income from the investment of property transferred beneficially to a child under a variety of particular circumstances; and

•

the accumulation of income that is excepted or would have been excepted income but for the income having been derived before the excepted income rules were introduced.

These items are listed in the same terms and to the same effect. The two subsections, taken together, have a common purpose and a common policy.

2.12 Subsection 102AG(2) also defines 'excepted trust income' as including income from deceased estates, for example where the administration of the deceased estate is still pending or where life trusts postpone distribution of the estate. All such income is earned by a trustee, and so section 102AE needs no equivalent provision. This is to be distinguished from the situation common to both subsections 102AG(2) and 102AE(2) were income is earned from the investment of property which has actually devolved from the deceased estate. That situation is dealt with by subparagraphs 102AE(2)(c) and 102AG(2)(d).

2.13 Subsection 102AE(2) also defines 'excepted assessable income' as including:

•

certain non-business partnership income. No equivalent provision is needed in subsection 102AG(2), as such income is comprehended by the categories of income derived by a trustee from the investment of property transferred beneficially to the child; and

•

income included as assessable income of the child under section 97 or section 100. No equivalent provision is needed in subsection 102AG(2), as that provision is concerned only with income derived by a trustee and not with income derived by the minor.

Elements required to be present to qualify under subparagraph 102AE(2)(b)(viii)/102AG(2)(c)(viii)

2.14 Particular amendments in this Bill are concerned with the category of 'excepted assessable income' and 'excepted trust income' defined under subparagraph 102AE(2)(b)(viii) and subparagraph 102AG(2)(c)(viii). These amendments are necessary because the words used in the former subparagraph 102AE(2)(b)(viii) and subparagraph 102AG(2)(c)(viii) were, and have always been, inappropriate to transfers of property in family breakdowns to which the Family Law Act 1975 (FLA) applies.

2.15 In order for an amount to qualify as 'excepted assessable income' or 'excepted trust income' under the former wording, the income is required to have been derived from the investment of property transferred to or beneficially to the minor pursuant to a decree or order of dissolution or annulment of marriage that has effect in Australia under the FLA, or pursuant to a decree or order of judicial separation or a similar decree or order. Such a requirement was widely ineffective for the following reasons:

•

the remedy of decrees or orders of judicial separation no longer exists, so transfers of property pursuant to such orders are now rare in Australia and impossible in most cases of family breakdown;

•

no procedure exists for transfer of property pursuant to an order of dissolution or nullity of marriage under the FLA, so transfers of property pursuant to such orders are now rare in Australia and impossible in most cases of family breakdown.

2.16 The fact that these technical deficiencies have existed since the commencement of Division 6AA on 1 July 1979 means that property would never be transferred 'pursuant to' the order or decree as required under the relevant subparagraphs, in family breakdowns to which only the FLA applied. (See Case V 105, 88 ATC 678, sub nom AAT Case 4480 (1987) 19 ATR 3678.)

2.17 In cases of family breakdown, transfers of property may now arise under:

•

the FLA;

•

the Child Support (Assessment) Act 1989 (CSA) (whether by court orders made under the law or merely by operation of the law);

•

certain state laws dealing with defacto relationships; and

•

court orders or legal obligations arising under similar laws in Australia or in a foreign jurisdiction.

2.18 The policy of the law is that, where property is transferred to or beneficially to a child, and because of a family breakdown, the child's share of the income from the investment of that property should not be subject to higher rates of tax. This matches the policy of the law in relation to a number of other circumstances in which property is transferred to or beneficially to a child. Those other circumstances include the transfer of property by way of damages for loss of parental support; by way of compensation for criminal injuries; directly as the result of someone's death and by an employer, under the terms of a life policy or out of a provident, benefit, superannuation or retirement fund; by way of damages for personal injury to the child; or out of a public fund for relief of persons in necessitous circumstances.

2.19 The law is clearly deficient both in its application to transfers of property in FLA proceedings and also in relation to its failure to reflect child support obligations which exist under the CSA. For example, property might be transferred in satisfaction of maintenance obligations where parentage has been accepted by a person who is not a partner of the person who has custody of the child. Also, the provisions have failed to keep pace with the general social and legal recognition of defacto relationships. Property might be transferred in satisfaction of obligations towards a former defacto partner or a child who formed part of the defacto family.

2.20 The present provisions attempt to incorporate comparable overseas decrees etc. recognised as valid in Australia. Clearly, where property is transferred to or beneficially to a child because overseas jurisdictions recognise child support obligations in a similar way to the CSA or recognise and deal with breakdowns in defacto relationships, such recognition should also be reflected in any changes to the law.

Policy of the provisions

2.21 The underlying policy of these two provisions is that where property is transferred to or beneficially to the child and the reason for that transfer is the satisfaction of responsibilities which arise from a family breakdown, such a transfer should be treated as a special category and the resultant investment income deserves special treatment. This is not to say that all income diversions which are entered into in order to satisfy maintenance obligations deserve special treatment. Such maintenance substitution arrangements only attract special treatment where they come under one of the heads of section 102AE(2) or 102AG(2).

2.22 It has also been suggested that, in the case of property transferred to a trustee for the benefit of the beneficiary, the property does not need to be transferred beneficially to the beneficiary. In other words the requirements of the law would be satisfied if the property were to revert to the settlor, or be transferred to another person, once the trust ends. This is clearly wrong under the law as it stands. Paragraphs 102AG(2)(c) and (d) require the property to be held by the trustee beneficially for the beneficiary. To give these provisions a meaning inconsistent with paragraphs 102AE(b) and (c) would mean there was a different policy underlying sections 102AE and 102AG. This is clearly not so.

2.23 The various heads of excepted income under paragraphs 102AE(2)(b) and (c) and paragraphs 102AG(2)(c) and (d) require, not only that others part with income which is to be excepted, but that they part with the underlying property from which that income is to be derived. Otherwise the categories of excepted income could be used to minimise tax, without making any real provision for the continuing advancement of the child. That would be inconsistent with the purpose of the excepted income provisions of Division 6AA.

Non-arm's length transactions

2.24 Subsections 102AE(6) and 102AG(3) are provisions which allow income as excepted assessable income or excepted trust income only so far as the income does not exceed the amount that would have been derived had the income been derived on an arm's length basis. The question is:

•

whether or not the income is derived directly or indirectly as the result of an agreement;

•

whether or not any 2 or more parties to the agreement were dealing with each other at arm's length in relation to the agreement; and

•

whether or not the income actually derived is more than it would have been if the parties had all dealt with each other at arm's length.

2.25 Arguments have been put forward that if parties to a family breakdown are dealing at arm's length in relation to the transfer of property to the child or the setting of maintenance for the child then that is sufficient evidence to ensure that income derived from investment of property transferred to or beneficially to the child is excepted income. This is not so because neither of these facts prove that the parties were dealing with each other at arm's length in relation to the derivation of income from property transferred to, or beneficially to, the child. In fact, a known maintenance obligation may serve to explain the payment of income representing more than an arm's length return on the investment of a child's property.

Explanation of the amendments

Family breakdown

2.26 The proposed amendments will replace the requirement that transfers of property be pursuant to a particular kind of decree or order with the requirement that the transfers be as a result of a family breakdown. [Items 15 and 17 of Schedule 1]

2.27 The amendments will ensure relief from the higher Division 6AA rates where income is derived from the investment of property transferred to or beneficially to a minor as the result of a family breakdown. Item 20 of Schedule 1 will introduce new section 102AGA. Subsection 102AGA(1) specifies that property is transferred 'as the result of a family breakdown' if the requirements of either of subsections 102AGA(2) or 102AGA(3) are met. These new subsections list the requirements which need to be satisfied before a transfer of property will be 'as the result of a family breakdown'.

2.28 The amendments will cover marriage breakdowns and breakdowns in de facto relationships. [new subsection 102AGA(2)]. The amendments will also cover situations where there is no breakdown of a marriage or defacto relationship, perhaps because there never was one, but there is a child support obligation - that is, the 'one night stand parent' case [new subsection 102AGA(3)]. That sort of case is properly described as a type of family breakdown, and a child to whom, directly or beneficially, property is transferred because of the family breakdown will not be disadvantaged compared to a child to whom, directly or beneficially, property is transferred because of a family breakdown that consists of the breakdown of a marriage or defacto relationship.

2.29 Further, the amendments will recognise income from property transferred to, or beneficially to, a minor by operation of foreign law under similar conditions. [New paragraphs 102AGA(2)(c) and (3)(b)]

Marriages and de facto relationships

2.30 New subsection 102AGA(2) identifies 5 elements required to be present before a transfer of property will be a transfer 'as the result of a family breakdown'.

2.31 The first requirement is that two people must cease to live with each other as spouses on a genuine domestic basis. De facto relationships are included here; the income tax law has long recognised spouses even when not married [new paragraph 102AGA(2)(a)]. Obviously, temporary separations are not countenanced, but income may still be excepted where two people genuinely separate and property was transferred to, or beneficially to, a child because of the separation, even if the two people were later reconciled.

2.32 Secondly, at least one of the persons mentioned must be a person who has parental responsibility for the child. This includes a natural, adoptive or step parent or a person who has legal custody or guardianship of the minor or beneficiary. Foster parents are not included as they are not parents or in the same category as the above [new paragraph 102AGA(2)(b)]. This requirement is necessary in order to connect the child to the family breakdown.

2.33 The third requirement is that an order, determination or assessment of a court, person or body is made wholly or partly because the parties have ceased to live together on a genuine domestic basis [new paragraph 102AGA(2)(c)]. The requirement is not restricted to orders, determinations etc. made in Australia. The intention of this requirement is to include all obligations arising not only by way of court order but by operation of law (for example, an administrative assessment under the CSA). The intention is to further include any foreign law equivalent obligations, whether in relation to child support or in any other respect, that might lead to the transfer of property to or beneficially to the child as the result of a family breakdown. This could include obligations that are dissimilar to those arising in Australia; for example, obligations under a fault based divorce system, a system of judicial separation, or a system automatically settling property on a child. The critical test of family breakdown would be the cessation of a relationship in which two parties lived together as spouses, and a child connected in one of the parental ways to that relationship. This requirement ensures that there is an 'official' sanction to the transfer of property and that there is an effective connection between the separation of the parties and the order, determination or assessment.

2.34 The fourth requirement is that the effect of the order mentioned in new paragraph 102AG(2)(c) must be that a person becomes subject to a legal obligation to maintain, transfer property to, or do some other thing for the benefit of, the child or for the benefit of one of the spouses [new paragraph 102AGA(2)(d)]. The legal obligation created is one which does not necessarily need to fall upon the spouses involved in the family breakdown or even upon the person who actually does transfer the property. The requirement is expressed in such broad terms in order to take into account the variety of circumstances which arise in family relationships. For example, an obligation may fall on a trust or on a family company.

2.35 The fifth requirement is that the transfer of the property must be in satisfaction of the legal obligation mentioned in paragraph 102AG(2)(d). This requirement ensures that the transfer is effectively connected to the breakdown. Discretionary transfers are therefore excluded as they are not in satisfaction of any legal obligation but are related to a private decision to direct money in a certain way [new paragraph 102AGA(2)(e)]. The requirement is expressed in broad terms to take account of the variety of parties who might seek to transfer property in satisfaction of the obligation. For example, another family member, or an entity they control, might seek to meet an obligation falling on a spouse.

2.36 The requirement also contemplates that the obligation might not itself require the transfer of property to or beneficially to the child, but that such a transfer might discharge the obligation. For example, a defacto spouse might be obliged to transfer property to the other spouse, but the spouses might agree to a transfer of property to the child in satisfaction of that obligation. Or someone might have an obligation to pay arrears of maintenance, and meet this by the transfer of property.

2.37 This fifth requirement is mirrored in new paragraph 102AGA(3)(d) which deals with 'one night stand parent' cases.

'One night stand parent' cases

2.38 New subsection 102AGA(3) covers the case of a transfer of property as the result of a family breakdown in situations where there is not a breakdown of a spousal relationship, perhaps because no such relationship was ever truly established, but child support obligations exist. This is the case where parentage is established or admitted at some time after the child is born and the parents were not living together as spouses on a genuine domestic basis when the child was born. [New paragraph 102AGA(3)(a)]

2.39 The other way in which this situation differs from the normal 'family breakdown' is the requirement that an order, determination etc. is made wholly or partly because the natural parents are not living together on a genuine domestic basis [new paragraph 102AGA(3)(b)]. This requirement would encompass situations where an order is made that a person should maintain a child because it has been determined that the person is the natural parent of the child.

2.40 New paragraph 102AGA(3)(c) is substantially the same as new paragraph 102AGA(2)(d) (referred to above) except for the reference to 'natural parents' rather than 'spouses'. Otherwise the proposed new paragraph has the same effect as new paragraph 102AGA(2)(d).

2.41 New paragraph 102AGA(3)(d) is identical to new paragraph 102AGA(2)(d) and has the same policy and effect.

Retrospectivity

2.42 The amendments that apply to transfers of property as a result of family breakdown are retrospective to the year of income that commenced on 1 July 1979. This makes the amendments apply to the whole period for which Division 6AA has applied. The amendments are made retrospective because the original intention of the Parliament in relation to transfers of property to, or beneficially to, children as a result of family breakdown was not given effect by the original legislation. Although the period of retrospectivity is substantial, these provisions are wholly beneficial to taxpayers, and accordingly no taxpayers are adversely affected by the date of effect.

Transfer of property

2.43 The amendments make it clear that transfer of property for the benefit of the beneficiary means beneficial transfer. To achieve this item 18 of Schedule 1 will introduce new subsection 102AG(2A). The effect of that provision is that the property must vest in the beneficiary under the trust. This new provision will exclude transfers of property to a trustee, for example, on terms that the income from the investment of property is to be distributed to a child during its minority, while the corpus is either to be returned to the settlor or distributed to a choice of beneficiaries not limited to the child once the child grows up. This amendment confirms that the scope of subparagraph 102AG(2)(c)(viii) is not different from that of subparagraph 102AE(2)(b)(viii), which requires transfer of property to the minor.

Non-arm's length transactions

2.44 The proposed amendments focus on the derivation of the excepted assessable income and excepted trust income (collectively referred to below as 'excepted income')and effectively confirm that, in relation to the derivation of that income, parties who are not dealing at arm's length cannot inflate the income beyond what it would be on an arm's length basis. For example, a parent cannot arrange for a child to be employed by a family company and paid far more than the arm's length rate of pay for services such as those provided. (For an example of such an arrangement see Kelly v. Raymor (Illawarra) Pty Ltd (1982) 13 ATR 5920 where children were employed as 'musicians' to play the recorder at company end-of-year parties.) Another example is the family member who arranges for high returns to be paid to a trustee investing nominal property held on a child's behalf, perhaps by exercising a discretion to distribute income to a trust with no property in which the trustee is persuaded to take units.

2.45 The law operates by providing that if 2 or more parties are not dealing at arm's length in relation to the derivation of income, the excepted income is reduced to what it would have been if the parties had been so dealing (under existing subsections 102AE(6) and 102AG(3)). The amendments confirm and clarify the existing law [item 16 of Schedule 1 and item 19 of Schedule 1, substitute subsections 102AE(6) and 102AG(3)]. The determinative factor is that parties are not dealing with each other at arm's length in relation to the derivation of the excepted income. That is, the fact that the parties may be at arm's length in that they are separating or have never been living as a couple is not determinative of whether the income is derived at arm's length.

2.46 The new subsections ask whether any parties to the derivation of what would otherwise be excepted income (under new paragraphs 102AE(6)(a) and 102AG(3)(a)), or parties to any act or transaction connected directly or indirectly with that derivation of income (under new paragraphs 102AE(6)(b) and 102AG(3)(b)), were dealing with each other at arm's length. If not, only the amount of income that would have been derived had all the parties been dealing at arm's length will be excepted income.

2.47 In relation to a unit in a unit trust, for example, the relevant question in determining the arm's length return is how much return would a person be entitled to if all parties were dealing at arm's length in relation to the return on that unit. The fact that property is transferred at arm's length does not establish that the income from investment of that property is an arm's length return. If the investment is by subscription of nominal property for a unit in a discretionary unit trust, then the arm's length return is nominal or zero. Any greater return is no arm's length return because a person who did not benefit from a non-arm's-length arrangement would get no significant return on his/her holding of such a unit.

2.48 In relation to subparagraphs 102AE(2)(b)(viii) and 102AG(2)(c)(viii) the new provision will ensure that substantial property will have to be transferred to ground an excepted income of any substantial amount. This is a crucial feature in deterring a transferor from entering into an artificial arrangement to provide income to a child.

2.49 Some arrangements have been attempted in which no, or no significant, property is transferred to or beneficially to a child. Because maintenance would otherwise have to be paid in relation to the child, these arrangements are sometimes attempted on the basis that any amounts of income paid to the child or to a trustee on behalf of the child will be taken to meet those maintenance obligations.

2.50 Maintenance is paid from after tax income and exempt from tax to its recipient. Substitute arrangements are not. When the substitute arrangement provides for the derivation of excepted income, that income is still taxable at normal rates. For children who have other income, their tax bill may be substantially higher where dollars of excepted income are substituted for dollars of maintenance. When the arrangement is based on a transfer of little or no property, it will produce little or no excepted income, and the higher rates of tax under Division 6 AA will apply to any excess. This will greatly reduce the income of children under such an arrangement.

2.51 The categories of excepted income in subsections 102AE(2) and 102AG(2) do not include maintenance substitution arrangements. They do not favour such arrangements. Diversion of income to meet maintenance obligations is not more favoured than other diversions of income to minors, for the purposes of Division 6AA.

2.52 The proposed amendments extend beyond the dealings between the party deriving the excepted income and the party from whom that income is derived. New paragraphs 102AE(6)(b) and 102AG(3)(b) extend to parties to any act directly or indirectly connected to the derivation of such excepted income. Take for example the situation of a minor investing (in partnership with another person) in a company. The proposed new provision ensures not only that the return from the partnership to the minor is at arm's length, but that the return from the company to the partnership is at arm's length. The provision allows inquiry into any transaction related to the derivation of excepted income, even if removed from that derivation. This confirms the former provisions.

Application

2.53 Subitem 21(2) of Schedule 1 provides that proposed new subsections 102AE(6) and 102AG(3) will apply in relation to income derived on or after 7 March 1994 (the date of the Governments announcement). So will the new subsection 102AG(2A). This effectively means that these provisions will apply from that date, and to all years of income following the first year of income which includes that date.

2.54 Subitem 21(1) of Schedule 1 provides that the remaining amendments will apply in relation to the year of income that commenced on 1 July 1979 and in relation to all later years of income. This was the application date of Division 6AA when it was first introduced.

Dividend imputation

Overview

3.1 Part 3 of Schedule 1 to this Bill will:

•

amend the imputation system to introduce new provisions to account for payments and refunds of company tax under the new instalment arrangements;

•

introduce a liability to deficit deferral tax so that the new provisions cannot be used to defer franking deficit tax;

•

modify the operation of the imputation provisions in those exceptional situations where a company makes, during its 1993-94 franking year, a company tax payment (other than an 'initial payment') that relates to its 1993-94 year of income.

[Item 22 of Schedule 1]

The first two dot points are explained in section 1 of this chapter and the third dot point is explained in section 2.

Outline of the imputation system

3.2 The imputation system operates to attribute (or 'impute') company tax to resident shareholders when dividends are paid to them out of taxed profits. Resident individual shareholders are effectively subject to tax on the before-tax profit that consists of the dividend and the company tax component, but are entitled to a tax rebate (sometimes referred to as an imputation credit) for the imputed company tax.

3.3 A dividend with an imputation credit attached to it is known as a franked dividend. The company paying the dividend declares it to be franked to a specified percentage before it pays the dividend. The extent to which a dividend is franked depends, in broad terms, on the amount of taxed profits available for distribution by the company as reflected in its franking accounts.

Franking accounts

3.4 From the beginning of its 1994-95 franking year a company must maintain two franking accounts; a class A franking account which represents profits taxed at the 39% company tax rate, and a class B franking account which represents profits taxed at the 33% company tax rate. Each franking account consists of franking credits that add to the amount of taxed profits that can be distributed as franked dividends, and of franking debits which reduce that amount.

3.5 Franking credits arise mainly at the time of payment of company tax instalments or company tax assessed, or when franked dividends are received from other companies. Franking debits arise mainly when the company franks the dividends it pays to its own shareholders. A franking debit also arises when company tax is refunded.

3.6 Franking accounts are balanced annually at the end of a company's franking year. For companies, other than early balancing companies, the franking year coincides with the financial year - 1 July to 30 June. Early balancing companies, that is, companies with a year of income that ends before 1 June in lieu of the year ending the following 30 June, have a franking year that also ends before 1 June.

3.7 If, at the end of the franking year, there is a deficit in a franking account, that is, total franking debits of a particular class exceed total franking credits of the same class, the company becomes liable for Franking Deficit Tax ["FDT"]. The FDT is due and payable on the last day of the month after the end of the franking year. A company can either apply the 'initial payment' of company tax (under the existing collection arrangement) against its FDT liability, or it can offset FDT paid against company tax later assessed.

Franking credit and franking debit calculations

3.8 Because a franking surplus, that is, the excess of franking credits over franking debits, represents an amount of profits able to be distributed as franked dividends, the amount of a franking credit or a franking debit that arises from the payment or refund of company tax is adjusted by a factor based on the relevant company tax rate.

3.9 For a class A franking credit or debit, the relevant company tax rate is 39%. Applying the factor 61/39 to a tax amount of, say, $390 results in a class A franking credit or debit of $610. This represents an amount that could be distributed as a fully franked class A franked dividend.

3.10 Similarly, for a class B franking credit or debit, the relevant company tax rate is 33%. Applying the factor 67/33 to a tax amount of, say, $330 results in a class B franking credit or debit of $670. This represents an amount that could be distributed as a fully franked class B franked dividend.

Franked dividends

3.11 If a company declares a dividend to be franked to 100%, that is, the dividend is fully franked, there will arise in the company's franking account, at the time the dividend is paid, a franking debit of an amount equal to the amount of the dividend.

3.12 If that dividend is a class A dividend of $610, a resident individual shareholder must include in assessable income the amount of the imputation credit, $390, as shown on the dividend statement provided by the company, in addition to the amount of the dividend. Although the $1000 is included in assessable income, the shareholder is entitled to a franking rebate of $390.

3.13 The rebate is used to offset income tax on the $1000 (for a taxpayer whose marginal rate exceeds the relevant company tax rate) or income tax on the $1000 and on any other income (for a taxpayer whose marginal rate is less than the relevant company tax rate). The rebate cannot, however, be refunded or carried forward to a later year if it exceeds the gross tax on the shareholder's taxable income.

3.14 If the dividend is paid to a non-resident shareholder, the non resident is exempt from dividend withholding tax to the extent of the franked amount of the dividend. For example, if the $610 dividend is declared to be franked to 60%, that is, it is a partly franked dividend, the franked amount of the dividend is $366. Only the remaining part of the dividend, $244, would be subject to withholding tax.

Non-mutual life assurance companies

3.15 Non-mutual life assurance companies have a limitation on the amount of income that can be distributed to shareholders rather than to policyholders. Because of this limitation, franking credits for tax on the part of the statutory fund component of income that is not available for distribution to shareholders are effectively excluded in franking account calculations. For these companies, franking credits and debits relating to the payment and refund of tax are reduced by adjusting franking debits and credits.

3.16 An adjusting franking debit or credit reverses the effect on the franking account of the part of the ordinary franking credit or debit that is attributable to tax on the statutory fund component of the company's taxable income. The net effect of the adjusting franking debits and credits is that the franking account excludes amounts that are not available for distribution to shareholders.

3.17 Profits represented by the non-fund component of the company's taxable income are available for distribution to shareholders. The non fund component broadly relates to income derived from assets that are not included in the company's life assurance, superannuation, rollover annuity and accident and disability insurance business.

3.18 Ordinary and adjusting franking credits and debits for tax amounts relating to the 1993-94 and later years of income are generally recorded in the company's class B franking account. The exceptions are the franking credits and debits that represent the portion of the statutory fund component of the company's income that is available for distribution to shareholders. They are calculated by reference to 20% of the statutory fund component of company tax and are recorded in the class A franking account because the special life assurance company tax rate, currently 39%, generally applies to this income.

Section 1 - Company tax instalment system changes

Summary of the amendments

Purpose of the amendments

3.19 The amendments will align the imputation provisions with the arrangements for the collection of company tax contained in Division 1C of Part VI of the Income Tax Assessment Act 1936.

3.20 Franking credits for the payment of company tax instalments will now always arise at the time payment is made [item 31 of Schedule 1; new section 160APM]. As some instalments will be paid during the year of income to which the tax liability relates, companies will be able to frank dividends paid in that year on the basis of the franking credits corresponding to those instalments.

3.21 Refunds of company tax instalments will give rise to franking debits at the time they are received [item 36 of Schedule 1; new section 160APY]. A refund of an instalment may occur after the end of the year of income to which the instalment relates. For many companies the franking credit on payment of an instalment and the franking debit on refund will arise in different franking years.

Deficit deferral tax

3.22 The Bill contains a measure to prevent the deferral of tax when instalment payments and refunds occur in different franking years. A liability to deficit deferral tax will arise when an instalment paid in the income year is refunded in the following franking year and a franking deficit would have arisen if the refund had occurred at the end of the previous franking year. This situation is most likely to occur when dividends franked on the basis of the instalment were paid to shareholders in the earlier franking year.

3.23 Deficit deferral tax will be imposed by the Income Tax (Deficit Deferral) Bill 1994.

Date of effect

3.24 The new provisions will apply to payments of company tax instalments relating to income derived during:

•

the 1994-95 year of income for small and medium instalment taxpayers; and

•

the 1995-96 year of income for large instalment taxpayers.

3.25 Because some early balancing medium instalment taxpayers (that is, companies with accounting periods ending before 30 June 1995 in lieu of the 1994-95 financial year) are likely to make payments under the new instalment arrangements before the Bill is enacted, these provisions will commence from the date of introduction of the Bill into Parliament. [Subclause 2(2)]

3.26 Deficit deferral tax will apply to companies that become liable for the tax from the date the Income Tax (Deficit Deferral) Bill 1994 receives Royal Assent. [Clauses 2 and 3 of the Income Tax (Deficit Deferral) Bill 1994]

Background to the legislation

The existing provisions

3.27 The provisions dealing with the imputation system are contained in Part IIIAA of the Income Tax Assessment Act 1936.

3.28 At present, the imputation provisions which account for payments and refunds of company tax refer to the types of payments and refunds that can be made under the existing company tax collection arrangements. These arrangements are contained in Division 1B of Part VI of the Income Tax Assessment Act 1936 and they provide, among other things, for the making of initial, further and final payments of tax.

3.29 As tax payments under those arrangements generally occur after the year of income to which they relate, franking credits for those payments also occur in the franking year following that year of income. This means that dividends franked on the basis of the tax payments will be paid in that later franking year or subsequent franking years.

3.30 A franking credit generally arises at the time the tax payment is made. The exception is when an initial payment is made during the year of income to which the payment relates. In this instance, the franking credit is deferred until the beginning of the next franking year. This is consistent with the accounting for franking credits in the franking year linked to the year of tax which, for companies, is the year following the year of income.

The new company tax instalment arrangements

3.31 Under the new arrangements, companies are classified according to the likely amount of tax on income derived during the year of income. The three categories are:

SMALL if likely tax is less than $8 000

MEDIUM if likely tax is between $8 000 and $300 000

LARGE if likely tax is more than $300 000.

3.32 For small and medium category taxpayers the new arrangements first apply to income derived in the 1994-95 year of income. For large category taxpayers, the new arrangements first apply to income derived in the 1995-96 year of income.

3.33 The time at which tax instalments are due and payable is ascertained by reference to the start of the company's year of income according to the following schedule:

SMALL

•

100% of tax assessed on the first day of month 18

MEDIUM

•

25% of likely tax on the first day of month 12

•

25% of likely tax on the first day of month 15

•

25% of likely tax on the first day of month 18

•

tax assessed minus previous instalments on the first day of month 21

LARGE

•

25% of likely tax on the first day of month 9*

•

25% of likely tax on the first day of month 12

•

25% of likely tax on the first day of month 15

•

tax assessed minus previous instalments

•

on the first day of month 18

The need for revised franking account provisions

3.34 Revision of the imputation provisions is needed simply to refer to the new company tax collection provisions contained in Division 1C of Part VI of the Income Tax Assessment Act 1936.

3.35 The instalment schedule above also shows that the accounting for franking credits in the franking year linked to the year of tax is no longer appropriate. As some instalments are now required to be made during the year of income to which the tax relates, it is appropriate that franking credits be permitted to arise at the time the instalment is paid.

3.36 The bringing forward of tax payments and franking credits to an earlier franking year will permit companies to pass imputation benefits on to shareholders by franking the dividends they pay on the basis of those payments. However, if those tax payments are then refunded in the following franking year, the tax represented by the imputation credits attached to the dividends could effectively be deferred until after the end of that later franking year. Deficit deferral tax is designed to counter that deferral outcome.

Explanation of the amendments

When will franking credits arise for the payment of company tax instalments?

3.37 Under the new company tax collection arrangements a class B franking credit will always arise at the time an instalment is paid. This rule will apply both to instalments (under section 221AZK) and to additional amounts (under section 221AZR) when a company has estimated an increased amount of likely tax for the year. [Item 31 of Schedule 1; new sections 160APM, 160APMAA]

Will a franking debit also arise at the time a company tax instalment is refunded?

3.38 Yes. If an instalment (or an additional amount paid on an upwards estimate of likely tax) is refunded, for example, as a result of a downwards estimate of tax the company will be liable to pay, a franking debit will arise at the time the refund is received. [Item 36 of Schedule 1; new section 160APY]

3.39 Similarly, for company tax that is refunded (or is credited against a tax liability other than company tax payable) at the time of assessment, a franking debit will arise at the time the refund is received or the amount is credited against the other liability. [Item 36 of Schedule 1; new section 160APYA]

3.40 However, if the amount refunded or credited includes tax paid as an instalment during the franking year before the franking year in which the refund is received the company may be liable to pay deficit deferral tax.

3.41 Paragraphs 3.43 to 3.55 explain when a liability to class B deficit deferral tax will arise, and what the consequences will be for a company and its class B franking account.

3.42 Paragraphs 3.71 to 3.77 explain when a liability to deficit deferral tax will arise, and what the consequences will be for a non-mutual life assurance company and its franking accounts.

What if the refund includes some or all of an instalment paid in the previous franking year?

3.43 If an instalment paid in the income year to which it relates is refunded in the next franking year a liability to a class B deficit deferral tax will arise only if there would have been a class B franking deficit, or increased franking deficit, if the refund had occurred at the end of that earlier franking year. [Item 47 of Schedule 1; new subsection 160AQJB(1)]Z

Example

Instalment	Dividend		Refund
$66000	$100500	30 June	$33000
Franking credit	Franking debit	Franking surplus	Franking debit
$134000	$100500	$33500	$67000
See hard copy.

3.44 In this example, part of an instalment paid in the earlier franking year is refunded in the following year. Imputation credits representing 75% of the tax instalment were passed on to shareholders through a fully franked dividend paid in that earlier year.

3.45 If the refund had occurred at the end of the previous franking year there would have been a franking deficit of $33 500. This is the class B deficit deferral amount in respect of the refund. [Item 47 of Schedule 1; new subsection 160AQJB(2)]

3.46 If, instead of a franking surplus, there had been a franking deficit at the end of the earlier franking year, the deficit deferral amount would be the amount of the increase in the franking deficit had the refund occurred at the end of the franking year.

3.47 In the above example, deficit deferral tax would be calculated as follows:

$33 500 x (33/67) = $16 500


[Item 47 of Schedule 1; new subsections 160AQJB(3) and (4)]

3.48 When a liability to deficit deferral tax arises, the company will be obliged to lodge a deficit deferral tax return within 14 days of receiving the refund. [Item 51 of Schedule 1; new section 160AREA]

3.49 The amount of deficit deferral tax specified on the return form will be taken, in accordance with self assessment principles, to be an assessment of the deficit deferral tax payable by the company. [Item 53 of Schedule 1; new section 160ARHA]

3.50 Deficit deferral tax will be due and payable 14 days after receipt of the refund. [Item 57 of Schedule 1; new section 160ARUA]

Successive refunds

3.51 If a further refund of, say, $16 500 were to be made in the above example, the class B deficit deferral amount would be increased by $33,500 to $67 000.

3.52 In this event, the 'gross class B deficit deferral tax amount' is calculated by the formula:

Class B defecit deferral amount x (33/67)


[Item 47 of Schedule 1; new subsection 160AQJB(4)].

In the example, the gross class B deficit deferral tax amount would be $33 000. That amount would then be reduced by any class B deficit deferral tax already payable by the company for previous refunds (in this example, $16 500) to arrive at the deficit deferral tax of $16 500 in relation to the later refund. [Item 47 of Schedule 1; new subsection 160AQJB(3)]

Franking credit when deficit deferral tax is payable

3.53 Because some or all of an amount refunded will be recovered by deficit deferral tax a franking credit equal to the adjusted amount of the deficit deferral tax payable will arise at the time of the refund. [Item 31 of Schedule 1; new subsection 160APMAB(2)]

3.54 The class B franking credit that will arise when a company is liable to pay class B deficit deferral tax is calculated as follows:

Class B deficit deferral tax x (1 - 0.33/0.33)


Example

3.55 In the example at paragraphs 3.43 to 3.47 above, where class B deficit deferral tax of $16 500 is payable, there would be a franking credit, under new subsection 160APMAB(2), of $33 500 as well as the franking debit, under new section 160APY, of $67 000 in respect of the refund.

Can Deficit Deferral Tax be offset against assessed company tax?

3.56 Yes. A company will be able to offset deficit deferral tax against company tax later assessed in the same way as franking deficit tax. [Items 48 to 50 of Schedule 1; amended subsection 160AQK(1)]

Is there an overfranking penalty if Deficit Deferral Tax is payable?

3.57 Yes. There will be a franking additional tax penalty similar to the section 160ARX overfranking penalty that can apply when there is a franking deficit at the end of the franking year. A company may become liable for a class B deficit deferral tax penalty of additional tax equal to 30% of the class B deficit deferral tax payable in relation to an instalment refund. The condition for liability to the class B deficit deferral tax penalty is that the class B deficit deferral amount that arises under new subsection 160AQJB(2) must exceed 10% of an amount calculated as follows:

Total amount of class B franking credits that arose during the first franking year - [Amount of refunds referred to in paragraph 160AQJB(1)(c) x (67/33)]


[Item 63 of Schedule 1; new subsection 160ARYB] .

3.58 The penalty is payable when the Commissioner makes an assessment of the franking additional tax [section 160ARL]. The Commissioner also has a remission power under which franking additional tax may be reduced [section 160ASB].

3.59 A non-mutual life assurance company may also become liable to a franking additional tax penalty if a class A deficit deferral tax arises. The class A deficit deferral tax penalty may consist of additional tax equal to 30% of the class A deficit deferral tax payable in relation to an instalment refund. The condition for liability to a class A deficit deferral tax penalty is that the class A deficit deferral amount that arises under new subsection 160AQJA(2) must exceed 10% of an amount calculated as follows:

Total amount of class A franking credits that arose during the first franking year - [(0.2 x 61/39) x Amount of refunds referred to in paragraph 160AQJA(1)(c)


[Item 63 of Schedule 1; new subsection 160ARYA].

Can an estimated debit determination be obtained for the expected refund of an instalment?

3.60 Yes. If a company intends to pay a dividend, but expects to receive a refund of an instalment that will result in a franking surplus less than that required to fully frank the dividend, the refund can be taken into account for 'required franking rule' purposes.

3.61 A company will be able to apply for the determination of an estimated class B debit so that the franking surplus before the dividend is paid will be reduced by a franking debit equal to the franking debit that will arise when the refund is received. [Items 44 to 46 of Schedule 1; amended section 160AQDA]

3.62 In this example, the company initially has a class B franking surplus of $134 000 that relates to the instalment paid. The company expects to pay dividends of $134 000 before the end of the year but has lodged a downwards estimate of tax payable for the year which will result in a refund, in part, of the instalment. The refund is expected to be received in the following year.

3.63 If the company did not apply for an estimated debit determination, a class B franking debit of $134 000 would arise in relation to the dividend as a result of the required franking rules. Although there would be no franking deficit at the end of the year, there would be a class B deficit deferral amount in relation to the refund. This could expose the company to a liability for deficit deferral tax penalty (see paragraph 3.57 above).

3.64 By obtaining an estimated class B debit determination, the company's franking surplus would be reduced so that the dividends, franked to the extent of 50%, would give rise to a franking debit of $67 000.

3.65 In this case, there would be no franking deficit at the end of the year and no class B deficit deferral amount in relation to the refund. This is because the class B franking debit that would arise, under new subsection 160APY, on receipt of the refund would be matched by an equal franking credit that would arise, under subsection 160APU(2), on the lapsing of the estimated debit.

3.66 A non-mutual life assurance company will also be able to apply for the determination of an estimated class A debit in the same way. [Items 41 to 43 of Schedule 1; amended section 160AQD]

What are the consequences if a deficit deferral tax return is not lodged?

3.67 The Commissioner will be empowered to make an assessment of deficit deferral tax payable by a company [item 54 of Schedule 1; new subsection 160ARK(3)] and the company will become liable for a franking additional tax penalty for the failure to lodge the return as required [item 64 of Schedule 1; new subsection 160ARZ(2)].

3.68 An additional tax penalty for late payment will also accrue from the time deficit deferral tax was taken to have become due and payable, that is, 14 days after the refund was received. [Item 58 of Schedule 1; amended subsection 160ARW(1)]

What are the consequences if deficit deferral tax is underpaid?

3.69 If there is a shortfall in the amount of deficit deferral tax paid the company will become liable for franking additional tax in the same way as if a shortfall had occurred in the payment of franking deficit tax. [Items 59 to 62 and 65 to 85 of Schedule 1]

What about the adjusting and class A franking debits and credits for non-mutual life assurance companies?

3.70 Adjusting and class A franking debits and credits for non-mutual life assurance companies will be calculated for company tax payments and refunds under the new instalment arrangements in the same way as under the existing arrangements. The following table lists the new or modified provisions:

Can a non-mutual life assurance company be liable for both class A deficit deferral tax and class B deficit deferral tax?

3.71 Yes. It will be possible for a non-mutual life assurance company to be liable for both class A deficit deferral tax and class B deficit deferral tax in relation to a particular refund. This will depend, of course, on whether the conditions for liability to deficit deferral tax are satisfied in each case when an instalment is refunded.

3.72 In this example, the payment of the instalment gives rise to:

•

a class B franking credit under new section 160APM;

•

an adjusting class B franking debit under new subsection 160AQCCA(1) which reduces the franking credit by an amount corresponding to the statutory fund component of the company's tax liability; and

•

a class A franking credit under new paragraph 160APVH(1)(aa) which corresponds to the portion of the company's tax on profits represented by the statutory fund component that are available for distribution to shareholders.

3.73 Before the end of the first franking year, the company pays franked dividends which, in accordance with the required franking rules of sections 160AQDB and 160AQE, first exhausts the class A franking surplus.

3.74 In the following franking year, part of the instalment is refunded giving rise to:

•

a class B franking debit under new section 160APY;

•

an adjusting class B franking credit under new subsection 160APVA(1) which reduces the franking debit by an amount corresponding to reduction in the statutory fund component of the company's tax liability; and

•

a class A franking debit under new paragraph 160AQCN(1)(aa) which corresponds to the reduction in the portion of the company's tax on profits represented by the statutory fund component that are available for distribution to shareholders.

3.75 Both a class A deficit deferral amount [item 47 of Schedule 1; new subsection 160AQJA(2)] and a class B deficit deferral amount [item 47 of Schedule 1; new subsection 160AQJB(2)] will arise in respect of the refund. This is because there would have been both a class A franking deficit of $3.05 million [item 47 of Schedule 1; new paragraph 160AQJA(1)(c)] and a class B franking deficit of $0.55 million [item 47 of Schedule 1; new paragraph 160AQJB(1)(c)] if the refund had occurred on the last day of the first franking year.

3.76 In this example, class A deficit deferral tax will be calculated under new subsection 160AQJA(3) [item 47 of Schedule 1] as follows:

$3.05m * (39/61) = $1.95m


and class B deficit deferral tax will be calculated under new subsection 160AQJB(3) [item 47 of Schedule 1] as follows:

$550 000 * (33/67) = $270 896


3.77 A class A franking credit, under new subsection 160APMAB(1) [item 31 of Schedule 1] of $3.05 million and a class B franking credit, under new subsection 160APMAB(2) [item 31 of Schedule 1], of $0.55 million will arise at the time the refund is received.

Section 2 - Early payment of company tax for 1993-94

Purpose of the amendments

3.78 These amendments will ensure that the imputation credits attached to dividends franked on the basis of an early payment, other than an initial payment, of company tax relating to taxable income of the 1993 94 year of income will be equal to the amount of company tax paid.

3.79 This will be achieved by requiring franking credits arising from early payments and franking debits arising from the refund of such payments to be calculated by reference to the 39% rate instead of the 33% rate that ordinarily applies to tax amounts relating to taxable income of the 1993-94 year of income.

Date of effect

3.80 The amendment will apply to payments and refunds of company tax for the 1993-94 year of income made after 17 February 1994. It is a transitional measure that will apply only to payments made during a company's 1993-94 franking year and to the refund of such amounts. [Item 86 of Schedule 1]

Background to the legislation

3.81 The general company tax rate was reduced from 39% to 33% by Part 5 of the Taxation Laws Amendment Act (No.2) 1993. The reduced rate applies to income derived in the 1993-94 year of income and later years. To accommodate this change, the imputation provisions were amended by Division 9 of Part 4 of the Taxation Laws Amendment Act (No.3) 1993. Those amendments introduced dual franking accounts; class A for franking credits and debits calculated by reference to the 39% rate and class B for franking credits and debits calculated by reference to the 33% rate. The class B franking account is created at the beginning of a company's 1994-95 franking year.

3.82 A company with a notional or estimated tax liability of more than $300 000, and with its year of income from 1 July to 30 June, was obliged to make its 'initial payment' of tax on income derived in the 1993-94 year of income by 28 July 1994. If it made its initial payment during July 1994, a class B franking credit will have arisen at the time the payment was made. The franking credit enables the company to distribute as fully franked dividends the after-tax profits calculated at 67/33 of the tax paid.

3.83 If the company had made its initial payment in June 1994, a class B franking credit would have again arisen, but would have been deferred until 1 July, the beginning of its 1994-95 franking year. The effect of the deferral is to prevent dividends, paid on the basis of the initial payment, being franked at the 39% rate when the tax has been paid at the 33% rate. In the absence of the deferral the imputation credits attached to dividends paid on the basis of the initial payment would be overstated by approximately 30%.

3.84 The amendment contained in this Bill will modify the imputation provisions in situations other than the making of an initial payment. It will address the situation where a company had ceased its business operations and a final payment of tax was made before the end of its 1993-94 franking year.

Explanation of the amendments

3.85 The payment of company tax on income derived in the 1993-94 year of income ordinarily gives rise to a class B franking credit. The class B franking credit represents profits taxed at the 33% company tax rate that can be distributed to shareholders as fully franked dividends. It is calculated by applying the factor 67/33 to the amount of company tax paid.

3.86 If a company makes its initial payment of tax in relation to the 1993-94 year of income during that year, an existing provision ensures that the class B franking credit arises at the beginning of the company's next franking year [paragraph 160APMA(a)].

3.87 Deferral of the time at which the franking credit arises would be impractical for a company that has satisfied its income tax liability for the 1993-94 income year and is being wound up. Shareholders would desire that the final distribution be promptly made and that it would absorb the franking surplus generated by the final tax payment.

3.88 Because the imputation credit attached to a dividend paid by a company during its 1993-94 franking year is calculated by reference to the 39% rate, there would be a disparity between the imputation credit and the amount of company tax paid if the franking credit that represents taxed profits were to be calculated by reference to the 33% rate.

3.89 The amendment will overcome this anomaly by calculating the franking credit by reference to the 39% rate. By applying the factor 61/39 to the amount paid to calculate the franking credit arising at the time an early payment of tax is made, the imputation credit on the dividends will equate with the company tax paid.

3.90 The 61/39 factor will be applied to calculate the franking credit that arises when a company makes an early payment of tax, other than an initial payment, during the transitional period, that is, after 17 February 1994 but during its 1993-94 franking year. [Paragraph (a) of subitem 86(1) of Schedule 1]

Example

3.91 A company has a taxable income of $200 000 for the 1993-94 year of income. Its business operations ceased, and winding-up commenced, during the 1993-94 financial year.

3.92 On 1 March 1994, an income tax return was lodged and company tax of $66 000 paid for the 1993-94 year of income.

3.93 The franking credit that arises on payment of company tax is the 'adjusted amount' in relation to the payment, and as a result of this amendment will be calculated as follows:

$66 000 * (1 - 0.39/0.39) = $103 231


3.94 The 61/39 factor will also be applied to calculate the franking debit that arises if an early payment made during the transitional period, other than an initial payment, is refunded or credited against another liability. [Paragraphs (b) to (d) of subitem 86(1) of Schedule 1]

3.95 It will also apply if a notice of amended assessment reducing the company's income tax liability for the 1993-94 year of income is served on the company, providing the original assessment was made after 17 February 1994 but before the end of the company's 1993-94 franking year. [Paragraph (e) of subitem 86(1) of Schedule 1]

Modification of the transitional rule if it would result in a franking deficit

3.96 The transitional rule will be modified if a company has made tax payments to which the amendment applies and, at the end of its 1993-94 franking year, there would be a franking deficit, or an increase in the franking deficit, that resulted only because of the amendment.

3.97 In this event, the company will not become liable for the franking deficit tax, or the increased franking deficit tax, for the 1993-94 franking year. Instead, there will be a class A franking debit equal to the amount of the franking deficit, or increased franking deficit, that would have resulted from the transitional rule. The class A franking debit will arise on the day on which these transitional provisions commence. [Subitem 86(2) of Schedule 1]

Example

3.98 Assuming, in the example at paragraphs 3.91 to 3.93 above, the company had not been wound up by 30 June 1994 (the end of its 1993-94 franking year) and it had paid fully franked dividends of $134 000 during the year (that is, on the basis of the company tax paid but without allowing for the adjustment required by this amendment). In this case, the imputation credits attached to the dividends, calculated by reference to the 39% rate, would amount to $85 672.

3.99 The result of the calculation of the franking credit for company tax paid according to the transitional rule, i.e., $103 231, together with the franking debit of $134 000 arising from the payment of the franked dividends, would be a franking deficit of $30 769 for the 1993-94 franking year.

3.100 In this instance, the transitional rule will be modified so that, instead of a franking deficit for the 1993-94 franking year, there will be a class A franking debit of $30 769 that will arise on commencement of this amendment.

3.101 If there are no other franking account entries during the company's 1994-95 franking year, the class A franking debit will result in a class A franking deficit at the end of that franking year. The franking deficit tax on that class A franking deficit will then be calculated as follows:

$30 769 * (0.39/1 - 0.39) = $19 672


3.102 The class A franking deficit tax of $19 672, together with the company tax paid of $66 000 for the 1993-94 year of income, will then equal the total amount of imputation credits attached to the $134 000 dividends paid in the 1993-94 franking year.

Non-mutual life assurance companies

3.103 The transitional measure will in the same way modify the franking credit and franking debit provisions that apply exclusively to non-mutual life assurance companies. As for other companies, a franking credit arises at the time a payment of tax is made. However, for these companies, a franking debit also arises at the same time to reduce the value of the franking credit by the part corresponding to the income tax attributable to the statutory fund component of the company's taxable income. For the 1993-94 income year, these franking credits and debits would ordinarily be calculated by reference to the 33% company tax rate.

3.104 The amendment will therefore apply the 61/39 factor to calculate the franking credits and franking debits corresponding to any early payment, other than an initial payment, of tax by a non-mutual life assurance company. [Paragraph (f) of subitem 86(1) of Schedule 1]

3.105 For a non-mutual life assurance company, another franking credit arises at the time a tax payment is made. This franking credit corresponds to the tax on a statutory percentage of the income on assets held in statutory funds that is available for distribution to shareholders. As this franking credit is already calculated by reference to the 39% company tax rate, there is no need to modify the calculation of this franking credit.

3.106 The modification of the transitional rule (by subitem 86(2) - see paragraphs 3.96 to 3.97 above), will apply equally to a non-mutual life assurance company if a franking deficit, or increased franking deficit, for the 1993-94 franking year would result from application of the rule to any early payments of company tax by such a company.

Return of deducted superannuation contributions

Overview

4.1 The amendments ensure that section 82AAQ operates to include in assessable income any amounts representing the return of deductible superannuation contributions to a sponsoring employer or to an associate of a sponsoring employer.

Summary of the amendments

Purpose of the amendments

4.2 The Bill proposes to amend section 82AAQ to ensure that any amount paid from a superannuation fund, or from a fund which is a successor of that superannuation fund, which represents the return of deductible superannuation contributions to a sponsoring employer, or an associate of a sponsoring employer, is included in the recipient's assessable income. The purpose of the amendment is to overcome arrangements which pose a serious risk to the revenue whereby the surplus from an employer sponsored superannuation fund is paid back to the sponsoring employer or an associate in a way which avoids the payment of tax on receipt of the surplus.

Date of effect

4.3 The amendments are proposed to apply from 1 July 1988 [item 88 of Schedule 1]. The proposed amendments have retrospective application because of:

•

the nature of the arrangements entered into;

•

the serious threat to the revenue caused by those arrangements (a review of ten company groups by the Australian Taxation Office identified a total surplus of $3.2 billion in their employer sponsored superannuation funds. If these figures are indicative of the industry in general, then the revenue impact of any defect in the current law is potentially very significant); and

•

the clear thrust of the existing law.

4.4 Moreover, to allow surpluses to be repatriated tax free would give an undue benefit to employers who entered into arrangements to avoid the existing law at the expense of the taxpayer community in general.

Background to the legislation

4.5 Section 82AAC of the Income Tax Assessment Act 1936 allows a deduction for contributions paid to a superannuation fund by an employer for the benefit of employees. However, any amounts that are repaid to the sponsoring employer by the fund must be included in the employer's assessable income under section 82AAQ.

4.6 Some companies have entered into arrangements so that the surplus from an employer sponsored superannuation fund is paid back in a way which avoids the payment of tax on receipt of the surplus. This has been achieved by:

•

paying the surplus to an associate of the employer who contributed to the fund (such as the holding company for the group) rather than the sponsoring employer; and

•

transferring all the assets of the superannuation fund to a new superannuation fund (a successor fund) and then transferring the surplus from the successor fund to the sponsoring employer or to an associate of the sponsoring employer.

4.7 Essentially, by paying the surplus to a company that has not contributed to the superannuation fund, or by paying the surplus from a successor superannuation fund, the companies argue that section 82AAQ is circumvented and that the payment of surplus is tax free in the hands of the company.

Explanation of the amendments

4.8 Item 87 of Schedule 1 inserts new subsection 82AAQ(2) to include in a recipient's assessable income the amount of any payment made to the recipient, or an amount equal to the value of any benefit given to the recipient, from a superannuation fund that reasonably represents a return of contributions (or earnings on those contributions) to a fund to provide superannuation benefits for an employee or for dependants of an employee.

4.9 A person will be a recipient for the purposes of new subsection 82AAQ(2) if:

•

he or she receives a payment or a benefit from a superannuation fund or from a successor superannuation fund (other than in the capacity as a member of the fund) where another person has obtained deductions for superannuation contributions to the fund or to the successor fund for the benefit of an employee or for the benefit of a dependant of an employee; or

•

he or she has obtained deductions for superannuation contributions to a fund for the benefit of an employee or for the benefit of a dependant of an employee and receives a payment or a benefit from a successor fund (other than in the capacity as a member of the fund).

[Item 87 of Schedule 1; new paragraph 82AAQ(2)(b)]

4.10 The main purpose of new subsection 82AAQ(2) is to ensure that any amount of surplus in a superannuation fund that is paid to a recipient will be included in the recipient's assessable income. However, other payments to the recipient from a fund (such as a return of contributions incorrectly made to a fund) may also come within the scope of the provision.

4.11 A payment or benefit from a superannuation fund to a recipient does not have to represent a return of actual employer contributions to reasonably represent a return of contributions or earnings on those contributions. Rather, any payment or benefit from a superannuation fund to a recipient reasonably represents a return of contributions or earnings on those contributions unless it represents a payment or benefit that is assessable (or specifically exempt) under another provision of the Act.

4.12 For example, a payment of an actuarially calculated surplus in a defined benefit fund to a recipient will reasonably represent a return of employer contributions plus earnings even though it may be paid out of an undissected pool of moneys held by the fund consisting of employer contributions, employee contributions and earnings. An amount of surplus usually arises in defined benefit funds and represents an actuarial calculation of the amount by which the current value of the fund's assets plus the present value of future contributions exceeds the present value of the fund's expected liabilities. New subsection 82AAQ(2) applies to such a payment because the surplus is clearly attributable to past employer contributions to the fund.

4.13 A payment or benefit to the recipient from a superannuation fund will not reasonably represent a return of contributions plus earnings, on the other hand, if it is a payment for services rendered or goods supplied to the fund by the recipient (which would usually be included in the assessable income of the recipient under subsection 25(1)).

4.14 Similarly, a payment or benefit will not be taxed under new subsection 82AAQ(2) if it is an eligible termination payment or a pension paid to the recipient because he or she is a member of the fund. Any such payment or benefit would be included in the recipient's assessable income under Subdivision AA of Division 2 of Part III of the Act.

4.15 The onus will be on the recipient to establish that any payment or benefit they receive from the fund is an amount that does not reasonably represent a return of contributions or earnings on those contributions.

4.16 A fund will be a successor fund of another fund if any assets have been transferred to the fund from the original fund (or from another fund that is a successor fund of the original fund) or if any amounts have been rolled-over to the fund from the original fund (or from another fund that is a successor fund of the original fund). [Item 87 of Schedule 1; new paragraph 82AAQ(3)]

Example 1

4.17 Atlas Pty Ltd has been contributing to the Atlas Superannuation Fund for a number of years. The fund identifies that it has surplus assets of $2 000 000 and decides to pay that amount to Atlas Enterprises. The $2 000 000 will be included in Atlas Pty Ltd's assessable income under existing subsection 82AAQ(1).

Example 2

4.18 Atlas Superannuation Fund (in Example 1) transfers the $2 000 000 to the Zeus Superannuation Fund rather than paying it to Atlas Pty Ltd. The amount is then paid by the Zeus Superannuation Fund to Atlas Pty Ltd. The amount will be included in Atlas Pty Ltd's assessable income under new subsection 82AAQ(2) because:

•

the Zeus Superannuation Fund is a successor fund of the Atlas Superannuation Fund as defined in new subsection 82AAQ(3);

•

Atlas Pty Ltd is a recipient as defined in new subparagraph 82AAQ(2)(b)(ii); and

•

the amount reasonably represents a return of contributions plus earnings paid by Atlas Pty Ltd to the Atlas Superannuation Fund.

Example 3

4.19 The $2 000 000 transferred from the Atlas Superannuation Fund to the Zeus Superannuation Fund in Example 2 is paid to Titan Enterprises (rather than Atlas Pty Ltd). The amount will be included in the assessable income of Titan Enterprises under new subsection 82AAQ(2) because:

•

the Zeus Superannuation Fund is a successor fund of the Atlas Superannuation Fund as defined in new subsection 82AAQ(3); and

•

Titan Enterprises is a recipient as defined in new subparagraph 82AAQ(2)(b)(i); and

•

the amount reasonably represents a return of contributions plus earnings paid by Atlas Pty Ltd to the Atlas Superannuation Fund.

Credit Unions

5.1 This Chapter explains amendments to the taxation laws relating to credit unions. Two Acts are to be amended. Section 1 explains amendments to the Income Tax Assessment Act 1936. Section 2 deals with amendments to the Income Tax Rates Act 1986.

Section 1 - Amendments to the Income Tax Assessment Act 1936

Overview

5.2 The Bill amends the definition of 'notional taxable income' of a credit union in the Income Tax Assessment Act 1936 (the ITAA).

5.3 The amendment confirms that credit unions can offset against their non-corporate member interest income, deductions that relate to that income in calculating notional taxable income.

5.4 The amendment also confirms that a net loss arising from non member income and corporate member interest income may be offset by credit unions against a net profit arising from non-corporate member interest income and vice versa.

5.5 The Bill thus ensures that the size of a credit union, as measured by 'notional taxable income', is not inflated by failing to offset deductions against income, or losses in one area against income in another. The size of a credit union is relevant to the way in which its income is taxed.

Summary of the amendments

Purpose of the amendments

5.6 The amendment clarifies the original intended meaning of 'notional taxable income'.

5.7 The amendment clarifies the meaning of the term notional taxable income of a credit union to ensure that it is calculated as originally intended. The term was introduced as a result of amendments made in the budget last year.

5.8 The size of a credit union is measured for some purposes on the basis of its notional taxable income. That size could be over-estimated, in relation to comparable credit unions, if deductions related to non-corporate member interest income were not taken into account, or if losses on one category of income were not to be offset against income of the other category.

Date of effect

5.9 The amendments will apply to assessments for the 1994-95 and later years of income. The calculation of notional taxable income is first required in assessments for the 1994-95 year of income. [Item 90 of Schedule 1]

Background to the legislation

5.10 The definition of notional taxable income is to be amended to clarify its meaning to answer questions raised by the credit union industry concerning its operation. The industry expressed doubt about the following aspects of the current provision:

•

whether credit unions can offset against their non-corporate member interest income, deductions that relate to that income in calculating notional taxable income.

•

whether a net loss arising from non-member income and corporate member interest income may be offset by credit unions against a net profit arising from non-corporate member interest income and vice versa.

5.11 The amount of a credit union's notional taxable income is used to determine whether it is a small, medium or large credit union and consequently the rate of tax it is required to pay on its taxable income. Notional taxable income is defined in subsection 6H(5) of the ITAA.

5.12 The present wording of subsection 6H(5) defines notional taxable income as the sum of the credit union's taxable income for that year, and that part of its income which is exempt by reason of the operation of subsection 23G(2). Because the present wording includes "that part of its income which is exempt", the industry feared that this might be interpreted as relating only to revenue, and not to related deductions. Because the present wording sums two amounts of income, the industry feared that losses in either amount could be taken into account only as no income, not as a negative amount of income.

5.13 The present wording calculates notional taxable income as if particular subsections were not applicable. This can be confusing to taxpayers, particularly when it has the effect of requiring them to apply provisions which they do not otherwise apply (because the particular subsections operate to exclude the provisions from applying).

Explanation of the amendments

5.14 The amendments ensure that the industry doubts about the operation of the definition of notional taxable income are overcome.

5.15 Amended subsection 6H(5) [item 89 of Schedule 1] operates to calculate the amount that would be the taxable income of a credit union if (under paragraph 6G(5)(a)) section 23G did not exempt the credit union's income for the 1994-95 and later years of income. This clearly allows deductions in relation to what would otherwise be exempt income to be taken into account.

5.16 This has the effect of allowing tax losses of all prior years to be carried forward and offset in the calculation of notional taxable income. It also allows the offsetting of exempt losses which arise in the 1994-95 or a later year of income. Exempt losses which arise prior to the 1994-95 year of income can not be offset in the calculation of notional taxable income. Such exempt losses are difficult to verify. They are also extremely unlikely to have arisen, on information now available.

5.17 Amended paragraph 6H(5)(b) provides that the calculation of notional taxable income is worked out on the basis that Division 9 of Part III had not been enacted. The effect of this paragraph is that in calculating notional taxable income, the calculation is made on the basis that the cooperative company provisions in sections 117 to 121 do not apply to the credit union. Division 9 also does not apply in determining the amount of prior losses that can be brought forward and offset in the calculation of notional taxable income.

5.18 Because the amended subsection 6H(5) no longer sums income amounts from separate areas of operation, but instead calculates taxable income on new assumptions, there is no possibility of losses in one area of operation being ignored in calculating that overall income.

Calculation of notional taxable income

Example

5.19 Credit Union Memonly 1994-95 income and deduction details:

Memonly's 1994-95 notional taxable income is as follows:

(a)

(a) interest income from non-corporate members less allowable deductions which relate to this income being: $100,000 - ($15,000 + $20,000) = $65,000

(b)

(b) income from corporate members and other non-member income less allowable deductions which relate to this income and any prior year losses (for the 1993-94 or prior years) from this class of income:

$1,000 - ($5,000 + $200 + $6,000) = ($10,200)
Memonly's notional taxable income = $65,000 less $10,200 = $54,800


The net loss for 1993-94 from exempt income does not affect the calculation, because it arose at a time when section 23G is not assumed to be inapplicable.

Section 2 - Amendments to the Income Tax Rates Act 1986

Overview

5.20 The Income Tax Rates Act 1986 will be amended by the Income Tax Rates Amendment Bill 1994 to correct an error in a tax threshold.

Explanation of the amendments

5.21 The amendment is designed to correct an error in the threshold in subsection 23(6) of the Income Tax Rates Act 1986 at which the income of a medium credit union is subject to tax. The threshold is reduced from income exceeding $50,000 to income exceeding $49,999. [Clause 4 of the Income Tax Rates Amendment Bill 1994]

5.22 The alteration to the threshold aligns it with the threshold for a medium credit union in the Income Tax Assessment Act 1936 and corrects it so that the threshold is the original threshold level intended.

5.23 The amendment applies to assessments for the 1994-95 and later years of income. The tax threshold for medium credit unions is first required in assessments for the 1994-95 year of income. [Clause 5 of the Income Tax Rates Amendment Bill 1994] -

Pooled development Funds

Overview

6.1 This Bill will amend the Income Tax Assessment Act 1936 and the Income Tax Rates Act 1986 to reduce the rate at which income derived by a Pooled Development Fund (PDF) from its investments in small and medium enterprises (SME income) is taxed.

6.2 The amendments to the Income Tax Assessment Act 1936 (the ITAA) will:

•

provide for the intercorporate dividend rebate allowable on dividends derived by a PDF to be calculated at the rate of tax applicable to the SME component of taxable income;

•

set out the rules for calculating the two components of PDF income - SME income component and unregulated investment component; and

•

make specific provision for the tax treatment of capital gains and capital losses of a PDF in calculating each component of taxable income.

6.3 The amendments to the Income Tax Rates Act 1986 (the Rates Act) will specify the rate of tax of each component of taxable income of a PDF. The tax rate for each component will be:

•

SME income component - 15 per cent

•

unregulated investment component - 25 per cent.

Summary of the amendments

Purpose of the amendments

6.4 The purpose of the amendments is to make the PDF program (which was introduced in 1992) more attractive to investors by lowering the rate at which a PDF is taxed on the income it derives from its investments in small and medium companies, from 25 per cent to 15 per cent.

6.5 Because the PDF program is designed to encourage investment in small and medium companes, the lower rate will not apply to a PDF's other income. The purpose of this distinction is to encourage PDFs to direct their funds into investment in small and medium companies, in preference to holding their funds, in effect, in interest bearing investments for long periods. [Items 1 and 5 of Schedule 2]

Date of effect

6.6 The amendments will apply to the assessments of a PDF for the 1994-95 and later years of income. [Items 4 and 23 of Schedule 2]

Background to the legislation

6.7 A PDF is a company that is registered as such under the Pooled Development Funds Act 1992 (PDF Act). Investments which a PDF may make are regulated by the PDF Act. The only investments a PDF may make are in ordinary shares (unless an investment in other kinds of shares is specifically approved by the PDF Board) and unregulated investments. Unregulated investments are in effect interest bearing investments.

6.8 The object of the law is to encourage investment in small and medium sized Australian companies through the pooling of investor funds. Restrictions are imposed on a PDF's investment activities to ensure that the funds raised are used in accordance with the intent of the program.

6.9 The taxable income of a PDF is calculated in the same way as that of other companies. A PDF is entitled to the intercorporate rebate on dividends at its average rate of tax (presently 25 per cent). PDFs derive franking credits when they pay company tax and derive franked dividends and are able to frank dividends.

6.10 The tax treatment of income derived by investors in a PDF is contained in Division 10E of the ITAA. These amendments will not change the concessional treatment presently accorded shareholders in a PDF on their PDF income. The concessions available to a shareholder in a PDF are:

•

unfranked dividends are exempt from tax;

•

franked dividends (including the franked amount of a dividend) are exempt from tax, unless the shareholder elects to include the dividends in assessable income and obtain the imputation credits;

•

dividends paid to non-residents are exempt from withholding tax;

•

gains on the disposal of shares in PDFs are exempt from income tax whether they constitute ordinary income or taxable capital gains. (Similarly, losses on the disposal of shares are not tax deductible nor can they reduce capital gains on the disposal of other assets.).

Explanation of the amendments

Income Tax Assessment Act 1936

Intercorporate dividend rebate

6.11 The rebate allowable to a company on its dividend income is calculated by applying the company's average tax rate to the part of the company's taxable income that constitutes dividend income. Where the whole of a company's taxable income is taxed at the one rate, the rebate is calculated at that rate.

6.12 Most companies' incomes are taxed uniformly at the one rate. Some companies enjoy limited rebates, which reduce that average tax rate. The averaging method ensures that such companies do not benefit excessively from the intercorporate dividend rebate.

6.13 The new tax rates for PDFs are fundamentally different. They do not give PDFs the benefit of a tax threshold or an initial rebate. Instead they give income from the investments PDFs are meant to favour a lower rate of tax. Those investments are by way of shareholding in small and medium enterprises. So dividends will be the kind of income taxed at the lower rate, and any rebate will be allowed at that tax rate.

6.14 As the rate at which the taxable income of a PDF will be taxed will depend on the component of income, the dividend rebate will not be calculated at the PDF's average rate of tax.

6.15 The Bill will amend the intercorporate dividend provisions (sections 46 and 46A) to make specific provision for the rebate on dividends derived by a PDF from its SME investments.

6.16 Under the existing law an Australian resident company (including a PDF) is entitled to a rebate on dividends included in its taxable income at the average rate of tax payable by it (subsection 46(2)). If the dividends are paid as part of a dividend stripping operation, a rebate is allowable on the net income from dividends (subsection 46A(5)). In each case the rebate is calculated by applying the company's rate of tax to either the amount of dividends included in its taxable income (section 46), or the net income from dividends included in its taxable income (section 46A).

6.17 The effect of the proposed amendments is that the rate at which dividends derived by a PDF will be taxed for the 1994-95 and later years of income will generally be different from its average rate of tax, but the same as the PDF's tax rate on such dividends. Proposed amendments to existing subsections 46(2) and 46A(5) will specifically exclude dividends derived by a PDF from entitlement to a rebate under those provisions. [Items 8 and 16 of Schedule 2]

PDF dividends

6.18 Dividends derived by a shareholder that is a PDF will be referred to as PDF dividends in sections 46 and 46A. [Items 6 and 14 of Schedule 2, definition of 'PDF dividend']

6.19 An Australian resident PDF will be entitled to a rebate in its assessment for the year of income on dividends included in its taxable income at the rate of tax applicable to the SME income component of taxable income (see later notes on that rate). [Item 9 of Schedule 2; new section 46(2A)]

6.20 Entitlement to the rebate under sections 46 and 46A will be confined to dividends derived from SME investments. [Item 7 of Schedule 2 - new subsection 46(1AAA); item 15 of Schedule 2 - new subsection 46A(1AA)]

6.21 The rebate will be allowable on the amount of dividends included in assessable income undiminished by any allowable deductions, unless the dividend income is greater than the SME income component of the PDF's taxable income. If the dividends included in the PDF's assessable income are greater than the SME income component, the rebate will be allowable on the amount of dividends equal to the SME income component. [Item 10 of Schedule 2; new subsection 46(7AA)]

6.22 The rebate allowable to a company under section 46 is reduced where:

•

the company has exercised an option under section 31(1) to value an article of trading stock on hand at the end of a year of income at a higher amount than would otherwise have applied; and

•

it is evident that the option was exercised in that way for the purpose of increasing the company's entitlement to a rebate under section 46.

6.23 If these conditions apply, subsection 46(7A) operates to limit the rebate to the amount that would have been available if the company had exercised the option to value the article of trading stock at the lowest value available under section 31(1).

6.24 The scope of subsection 46(7A) will be extended to cover the dividend rebate to which a PDF is entitled under new subsection 46(2A). [Item 11 of Schedule 2]

6.25 The reference to dividends included in taxable income in paragraph 46(7A)(a) will be amended to exclude PDF dividends. PDF dividends will be dealt with by a new provision. [Item 12 of Schedule 2]

6.26 A third amendment to subsection 46(7A) will limit the rebate allowable to a PDF where:

•

the PDF has exercised an option under section 31(1) to value an article of trading stock on hand at the end of a year of income at a higher amount than would otherwise have applied; and

•

it is evident that the option was exercised in that way for the purpose of increasing the company's entitlement to a rebate under section 46.

6.27 If these conditions are satisfied, the rebate to which the PDF would have been entitled will be limited to the amount that would have been available if the option had been exercised to value the article of trading stock at the lowest value available under section 31(1). [Item 13 of Schedule 2; new paragraph 46(7A)(c)]

Dividends paid as part of a dividend stripping operation

6.28 In the case of dividends paid as part of a dividend stripping operation, the rebate will be allowable on the net income from dividends included in taxable income. The rebate will be allowable at the rate of tax applicable to the SME income component of taxable income (see later notes). [Item 17 of Schedule 2; new subsection 46A(5A)]

6.29 The rebate will be allowable on the amount of net income derived from PDF dividends. The net amount will be the amount of PDF dividends derived from dividend stripping operations included in assessable income less deductions allowable to the PDF under the Act in respect of those dividends. [Item 18 of Schedule 2; new subsection 46A(9A)]

6.30 Subsection 46A(10) specifies the deductions that relate to dividends derived from dividend stripping operations which are taken into account in calculating the amount of the net income from dividends. This is the amount on which a rebate is allowable under subsection 46A(5).

6.31 Two amendments to subsection 46A(10) will extend the scope of the provision to include the deductions that are to be taken into account in calculating the net income from dividends derived by a PDF from dividend stripping operations. This net amount will qualify for the rebate under new subsection 46A(5A). [Items 19 and 20 of Schedule 2]

Calculating the taxable income of a PDF

6.32 The proposed amendments will divide the taxable income of a PDF into two components - SME income component and unregulated investment component - and specify the rules to be applied in calculating each component. Allowable deductions to a PDF will be offset first against SME income. This simplifies the allocation of deductions against each class of income, and encourages PDFs to keep unregulated investment income to as small a proportion of total assessable income as possible.

6.33 Capital gains and losses occurring in each income component will be determined separately. A capital loss incurred in a year of income on the disposal of assets in one component must be offset against capital gains derived in that year of income on the disposal of assets in the other component.

6.34 Division 10E of Part III of the Act (Shares in PDFs) will be restructured into three subdivisions to deal with the division of the taxable income of a PDF into two components. The heading to the Division will be changed from 'Shares in PDFs' to 'PDFs (pooled development funds)' in recognition of the extended scope of the Division. [Item 21 of Schedule 2]

•

New subdivision A, 'Shares in PDFs', will contain the existing provisions in Division 10E. [Item 22 of Schedule 2]

•

New subdivision B, 'Components of the taxable income of PDFs', will contain provisions for calculating each component of taxable income. [Item 23 of Schedule 2]

•

New subdivision C, 'Adjustments of the tax treatment of capital gains and capital losses of PDFs', will specify the basis on which capital gains and losses are to be calculated and allocated to each component of taxable income. [Item 23 of Schedule 2]

Full -year and part-year PDFs

6.35 Different rules will apply in calculating the taxable income of a company that is a PDF on the last day of the year of income according to whether the company:

•

was registered as a PDF for the whole of the year of income; or

•

became a PDF part-way through the year of income.

6.36 In each case the first step in calculating the taxable income will be to calculate the SME assessable income. Three new terms defined for the purposes of new Subdivision B will apply in calculating SME assessable income. The terms are:

•

non-CGT assessable income

•

SME investment

•

unregulated investment.

6.37 These terms are also defined for the purposes of calculating the capital gains and capital losses of each component of taxable income (new Subdivision C). The terms have the same meaning in both Subdivisions. [New sections 124ZS and 124ZW]

Non-CGT assessable income

6.38 This term is defined in new sections 124ZS and 124ZW. It will be used in calculating SME assessable income (new section 124ZT) and to calculate 'other assessable income' (new subsection 124ZY(2)).

SME investment

6.39 The term SME investment is defined in new section 124ZS and 124ZW as any investment that is not an unregulated investment (see below).

Unregulated investment

6.40 The term 'unregulated investment' will have the same meaning as in the PDF Act. The PDF Act defines an unregulated investment as an investment of a prescribed kind. Investments prescribed in Reg 3 of the PDF Regulations are:

(a)

an investment by way of:

(i)

a loan to; or

(ii)

a deposit with; or

(iii)

a debenture of;

•

a bank within the meaning of the Banking Act 1959 or a State bank;

(b)

an investment in the short term money market by way of a deposit with an authorised money market dealer.'

6.41 (An authorised money market dealer is a registered corporation that is included in a list prepared by the Treasurer under section 10 of the Financial Corporations Act 1974.)

6.42 So unregulated investment is essentially confined to lending to banks and to deposits in the short term money market.

SME assessable income

6.43 The fundamental difference between SME assessable income and assessable income calculated under general principles is that special rules will apply to allocate the assessable capital gains and deductible capital losses (see notes below on new Subdivision C of Division 10E).

6.44. The SME assessable income of a PDF will be the sum of:

•

any non-CGT assessable income (see above) derived on the disposal of an SME investment if the company is a PDF at the time the investment was disposed of; and

•

any assessable income allocated to the PDF under new section 124ZZB. This can include only income arising on the disposal of a SME investment, reduced by certain other capital losses. [New subsection124ZT(1)]

6.45 If SME income is derived, or an SME investment is disposed of, during a year of income but not on a particular day, for example, an assessable profit is derived through a trust in which the PDF was a beneficiary, the income will be taken to be derived, or the disposal will be treated as having occurred, on the last day of the year of income. [New subsection 124ZT(2)]

Company is a PDF for the whole year of income

6.46 The steps to be followed in calculating the taxable income of a company that is a PDF for the whole of the year of income are:

(1)

calculate the taxable income in the normal way (under paragraphs (a) or (b) of the definition of "taxable income" in subsection 6(1));

(2)

calculate the SME income component - SME assessable income less all allowable deductions (new subsection 124ZU(1));

(3)

calculate the unregulated investment component - taxable income less SME income component (new subsection 124ZV(1))

SME income component

6.47 The SME income component of a company that is a PDF for the whole of a year of income is the SME assessable income of that year (see notes above) less the deductions allowable to the PDF for that year of income, whether those deductions relate to the SME assessable income or not. The deductions allowable for a year of income will include any prior losses, such as those allowable under section 79E. [New subsection 124ZU(1)]

Unregulated investment component

6.48 The other component of the taxable income of a PDF of a year of income will be the unregulated investment component. This component will be the difference between the taxable income of the PDF (calculated under paragraph (a) or (b) of the definition of "taxable income" in subsection 6(1)) and the SME income component for that year of income (calculated under new section 124ZU). [New subsection 124ZV(1)]

6.49 This method of calculating the unregulated investment component will have the effect that where the deductions allowable to the PDF for a year of income exceed the income from SME investments and from the disposal of SME investments for that year, only the amount of the excess will reduce the unregulated investment component.

6.50 The unregulated investment component of the taxable income of a PDF will not be limited to income derived from the particular investments prescribed in the PDF regulations. This component will include all income that is not SME assessable income. For example, it would include management fees derived by a PDF.

Company becomes a PDF during the year of income

6.51 If a company becomes registered as a PDF part-way through a year of income, the company is taxed as a PDF for the period from the day of its registration to the end of the year of income as if that period (the PDF period) was a year of income. Tax is payable at the concessional PDF rate on the amount of taxable income that is not more than the PDF component (defined in subsection 6(1) of the Act).

6.52 In most cases the PDF component is the taxable income for the PDF period (calculated under paragraph (a) or (b) of the definition of 'taxable income', i.e. assessable income less allowable deductions). The PDF component cannot be less than nil. If a loss is incurred in the PDF period the PDF component is nil.

6.53 If the PDF component is nil the taxable income of the company for the non-PDF period is calculated under paragraph (c) of the definition of "taxable income". Paragraph (c) requires the taxable income of the non-PDF period to be calculated under paragraph (a) or (b) of the definition of 'taxable income' as if the year of income commenced on the first day of the year of income and ended on the day immediately before the company became registered as a PDF.

6.54 The effect of the proposed amendments is that in the year of income in which a company becomes a PDF it will be taxed on the SME and unregulated investment components of taxable income for the time it was a PDF, instead of the PDF component of its income for the year.

Calculating the components of taxable income

6.55 The steps to be followed in calculating the taxable income of a company that becomes a PDF during a year of income are:

(1)

calculate the adjusted taxable income (see notes below);

(2)

calculate the SME income component - SME assessable income less deductions allowable for the year that were taken into account in calculating the PDF component (new subsection 124ZU(2));

(3)

calculate the unregulated investment component - adjusted taxable income less SME income component (new subsection 124ZV(2))

Adjusted taxable income

6.56 The 'adjusted taxable income' will be relevant in calculating both the SME component and the unregulated investment component of the year of income in which a company becomes a PDF.

6.57 The adjusted taxable income is the amount that would be the taxable income for the period from the date the company is registered as a PDF until the end of the year of income if that period were a year of income. It will be the same as the PDF component. Although it has the same meaning as the PDF component the term 'adjusted taxable income' has been used for clarity.

SME component

6.58 The SME income component of a company that becomes a PDF during a year of income is the SME assessable income of that year (see notes above) less the deductions that satisfy certain conditions.

6.59 Income derived from SME investments will be SME assessable income only if it is derived while the company is a PDF. Hence, only SME assessable income derived during the period from the time the company becomes a PDF and the last day of the year of income will be SME assessable income.

6.60 Deductions incurred by the company during the year of income will be taken into account in calculating the SME component if they satisfy both the following conditions:

•

they were allowable to the PDF for that year of income; and

•

they were taken into account in calculating the PDF component.

6.61 In effect, the same rate applies to part-year PDFs as to full-year PDFs. But it applies on the basis only of the deductions that are relevant to the PDF component - the income of the period during which the company was a PDF. [New subsection 124ZU(2)]

Unregulated investment component

6.62 The unregulated investment component will be the difference between the adjusted taxable income of the PDF (same as the PDF component - defined in subsection 6(1)) and the SME income component for that year of income (calculated under new section 124ZU). [New subsection 124ZV(2)]

6.63 This method of calculating the unregulated investment component will have the effect that only where the deductions allowable to the PDF for the PDF period exceed the SME component for that period, will the amount of the excess reduce the unregulated investment component. In other words, deductions relevant to the company's time as a PDF will be taken to reduce the SME component of income, and it is only when that has been fully absorbed that deductions will be taken to reduce the unregulated investment component of the company's income as a PDF.

6.64 The unregulated investment component of the taxable income of a PDF will not be limited to income derived from the investments prescribed in the PDF regulations. This component will include all income that is not SME assessable income. For example, it would include management fees derived by a PDF.

Allocating the capital gains and capital losses of a PDF

6.65 Special rules will apply to calculate the net capital gains of a PDF that is to be included in each component of taxable income. These special rules (contained in new Subdivision C) will be used to calculate the assessable capital gains of a company that is a PDF throughout the year of income, or becomes a PDF during the year of income and is still a PDF at the end of the year of income. [New section 124ZX]

6.66 The assessable income of a PDF will be divided into two classes for the purpose of:

•

calculating the amount of any net capital gain assessable to the PDF; and

•

ascertaining the class of assessable income to which the net capital gain is to be allocated.

6.67 The effect of new Subdivisions B and C will be that the amount of any overall capital gain allocated to the SME assessable class (under new section 124ZZB) will be included in the SME assessable income (under new subsection 124ZT(1)) from which the SME income component will be calculated (under new section 124ZU).

6.68 The basic rule is that capital gains in one class are reduced first by capital losses in that class and then by capital losses in the other, and that prior year capital losses are absorbed first against capital gains in the SME assessable income class.

6.69 New Subdivision C contains definitions of terms that will be used in calculating the assessable capital gains of each class of assessable income.

'ordinary 160Z gain amount' in relation to the disposal of an asset will be any capital gain that would be deemed for the purposes of Part IIIA of the Act (if that Part applied) to have accrued in respect of the disposal of the asset.

'ordinary 160Z loss amount' in relation to the disposal of an asset is any capital loss that would be deemed for the purposes of Part IIIA of the Act (if that Part applied) to have been incurred in respect of the disposal of the asset.

'overall 160Z gain' for each class of income is the amount by which the total of the capital gains calculated under section 160Z on the disposal of assets in the particular class of income for that year of income, exceeds total capital losses calculated under section 160Z on the disposal of assets in that class of income for that year of income.

'overall 160Z loss' for each class of income is the amount by which the total of the capital losses calculated under section 160Z on the disposal of assets in the particular class of income for that year of income, exceeds total capital gains calculated under section 160Z on the disposal of assets in that class of income for that year of income.

'prior year Part IIIA loss' means, in effect, the amount of any net capital loss of the PDF. A prior year Part IIIA loss will arise where the sum of the overall 160Z losses for both classes for the year exceeds the sum of the overall 160Z gains before any part of the prior year loss has been taken into account under new subsection 124ZZB(3).

'residual overall 160Z gain' means the overall 160Z gain (see above) less the overall 160Z loss (deducted under proposed subsection 124ZZB(2)). The residual overall 160 gain is reduced by the prior year Part III losses under proposed subsection 124ZZB(3).

'total ordinary 160Z gain amount' for a class of assessable income means the total of the ordinary 160Z gain amounts allocated to that class of income. The total ordinary 160Z gain amount will be used in ascertaining the overall 160Z gain or the overall 160Z loss for that class of assessable income.

'total ordinary 160Z loss amount' for a class of assessable income means the total of the ordinary 160Z loss amounts allocated to that class of income. The total ordinary 160Z loss amount is used in ascertaining the overall 160Z gain or the overall 160Z loss for that class of assessable income.

6.70 The steps in determining the net capital gain to be included in each class of assessable income for a year of income for a PDF are:

(1)

calculate the capital gain or capital loss (under section 160Z) arising on the disposal of each asset of the PDF ('ordinary 160Z gain amount'; 'ordinary 160Z loss amount');

(2)

determine the total of the ordinary capital gains of each class of income ('total ordinary 160Z gain amount');

(3)

determine the total of the ordinary capital losses of each class of income ('total ordinary 160Z loss amount');

(4)

for each class of assessable income, calculate the:

(a)

overall 160Z gain ('total ordinary 160Z gain amount' less 'total ordinary 160Z loss amount'); or

(b)

overall 160Z loss ("total ordinary 160Z loss amount" less total ordinary 160Z gain amount"); [new section124ZZA]

(5)

if a class has an overall 160Z loss, apply that loss in reducing any overall 160Z gain of the other class. (This reduced gain is termed 'residual overall 160Z gain') [new subsection 124ZZB(2)];

(6)

if there is a prior year net capital loss, that loss will be deducted first from the overall 160Z gains for the SME assessable income class, and then from the overall 160Z gains for the other assessable income class [new subsection 124ZZB(3)];

(7)

if there is an overall 160Z gain of a class remaining after the above reductions, the amount of the gain will be included in assessable income [new subsection 124ZZB(1)].

6.71 If the overall 160Z gain of both classes is reduced to nil, any remaining loss will be able to be carried forward as a "prior year Part IIIA loss" and available to reduce capital gains derived in future years.

6.72 The above rules for calculating assessable capital gains will apply to a company for a year of income if:

•

the company is a PDF for the whole of the year of income; or

•

the company becomes a PDF during a year of income and is still a PDF at the end of the year of income. [New section 124ZX]

6.73 All the assessable income of a PDF will be divided into two classes for the purposes of allocating capital gains and losses to a particular component of taxable income. These classes are:

•

SME assessable income; and

•

other assessable income. [New subsection 124ZY(2)]

6.74 The SME assessable income in new Subdivision C will have the same meaning as in new Subdivision B (see notes on "SME assessable income" above).

Other assessable income

6.75 The other assessable income of a PDF will be the sum of:

•

any non-CGT assessable income (see above) that is not included in the company's SME assessable income of that year of income; and

•

any assessable income allocated to the PDF under new section 124ZZB. [New subsection 124ZY(2)]

6.76 Net capital gains are included in assessable income under section 160ZO of the ITAA. However, for the 1994-95 and future years of income any net capital gains derived by a PDF will be included in the assessable income of a PDF under Division 10E and not under section 160ZO. [New section124ZZ]

Disposals of SME investments

6.77 If a company disposes of an SME investment and it is a PDF at the time of the disposal, the overall 160Z gain or overall 160Z loss for the SME class of assessable income will be calculated by taking .into account any ordinary 160Z gain or an ordinary 160Z loss (see notes above) arising on the disposal of the SME investment. [New subsection 124ZZA(1)]

Disposals of assets that are not SME investments

6.78 If a PDF disposes of an asset that is not an SME investment, any ordinary 160Z gain or an ordinary 160Z loss (see notes above) will be taken into account in calculating the overall 160Z gain or overall 160Z loss for the other class of assessable income. [New subsection 124ZZA(2)]

Section 51AAA - deductions

6.79 Section 51AAA of the ITAA operates to deny a deduction that would otherwise be allowable under the general deduction provisions of the ITAA (Subdivision A of Division 3 of Part III) where the deduction is allowable only because a capital gain has been included in the taxpayer's assessable income under section 160ZO.

6.80 Where a capital gain is included in the assessable income of a PDF under (new subsection 124ZZB(1)) but not under section 160ZO, the scope of section 51AAA will be extended to deny deductions that would otherwise be allowable under the general deduction provisions. [New section 124ZZC]

Section 160ZC - capital losses

6.81 Section 160ZC provides for the calculation of the capital losses that may be taken into account in calculating the net capital gains that are included in assessable income under section 160ZO. Net capital losses incurred by a PDF for the 1994-95 and future years of income will be taken into account in calculating the capital gains to be included in assessable income under Division 10E. Accordingly, for the purposes of section 160ZC a PDF will be taken not to have incurred a capital loss. [New section 124ZZD]

Income Tax Rates Act 1986

6.82 As a consequence of the announcement in the Working Nation Statement the taxable income of a PDF will be divided into two components:

•

the SME component which will be taxed at the rate of 15 per cent; and

•

the unregulated investment component which will continue to be taxed at the rate of 25 per cent.

6.83 The object of the proposed amendments to the Rates Act is to give effect to this announcement by reducing the rate of tax on the income a PDF derives from its investments in small and medium enterprises (SME income) from 25 per cent to 15 per cent. [Item 1 of Schedule 2]

6.84 Definitions of the following new terms will be included in subsection 3(1):

•

'SME income component'

•

'unregulated investment component'

6.85 These new terms will have the same meaning as in Subdivision B of the ITAA (see earlier notes). [Item 2 of Schedule 2]

6.86 The rate of tax payable by a PDF is specified in subsections 23(4C) and (4D). These provisions will be replaced by new provisions which will declare the rates of tax on the components of taxable income of a PDF. [Item 3 of Schedule 2]

6.87 For full-year PDFs, new subsection 23(4D) provides separate rates for the two possible components of their income:

(1)

15 per cent in relation to the SME component; and

(2)

25 per cent in relation to the unregulated investment component, which must be the balance of their income.

6.88For part-year PDFs, new subsection 23(4C) provides separate rates for the three possible components of their income:

(1)

15 per cent in relation to the SME component;

(2)

25 per cent in relation to unregulated investment component, which must be the balance of their PDF component; and

(3)

33 per cent in relation to the difference between the taxable income for the whole of the year of income and the PDF component.

Superannuation

Overview

7.1 The amendments contained in Schedule 3 of the Bill are primarily concerned with the tax treatment of dealings with non complying superannuation funds (particularly overseas superannuation funds).

7.2 This Chapter explains the amendments in the context of their impact on:

•

the taxation of eligible entities (i.e., superannuation funds, approved deposit funds (ADFs) and pooled superannuation trusts (PSTs)) - Section 1;

•

the taxation treatment of superannuation contributions - Section 2; and

•

the taxation treatment of amounts paid from superannuation funds, ADFs and certain payments made in consequence of termination of employment - Section 3.

Section 1 - Taxation of eligible entities

Summary of the amendments

Purpose of the amendments

7.3 The amendments will:

•

insert new residency tests for superannuation funds and ADFs;

•

ensure foreign superannuation funds do not lose their status because they pay pensions to Australian residents;

•

restrict complying status under the SISA to resident entities;

•

specify the circumstances in which a superannuation fund could lose its complying status under the SISA;

•

restrict contributions under the SGAA to complying superannuation funds (the new definition ensures the fund is a resident superannuation fund);

•

tax eligible entities (that is, complying or non complying superannuation funds, complying or non complying ADFs, or PSTs) that change residency or compliance status by reference to the market value of their assets at the time of change;

•

allow the capital gain reflected in the market value of assets used for determining the amount included in a fund's assessable income on changing status from a complying fund to a non complying fund or from a non resident to a resident to be taken into account when calculating any capital gain on the subsequent disposal of the asset;

•

subject to withholding tax dividend, interest and royalty income derived by non-resident entities that do not qualify as foreign superannuation funds; and

•

tax non resident entities on their assessable income (excluding dividend, interest and royalty income) at the tax rate applicable to non complying superannuation funds (presently, 47%).

Date of effect

7.4 Most of the amendments will apply to a fund for the 1994 95 and subsequent years of income.

7.5 The amendments to recoup tax concessions given to superannuation funds that change their status from complying to non complying and to impose tax on funds that change their status from non resident to resident will apply from the beginning of the 1995 96 year of income of the fund.

7.6 The amendments to remove the withholding tax exemptions for certain dividend, interest and royalty income of overseas superannuation funds apply in relation to income derived by a fund after the day on which the amendments receive Royal Assent.

Background to the legislation

What is an eligible entity?

7.7 An eligible entity is a complying or non complying superannuation fund, a complying or non complying ADF, or a PST.

What is the current tax treatment of an eligible entity?

7.8 The tax treatment of an eligible entity is governed by Part IX of the ITAA and the SISA. The tax treatment depends on whether the eligible entity is:

•

complying or non complying; and

•

resident or non resident.

7.9 An eligible entity is complying and taxed concessionally if it satisfies certain requirements specified in the SISA. Eligible entities that do not satisfy these requirements are non complying and taxed on a non concessional basis.

7.10 An eligible entity is taxed as a non resident if it is a foreign superannuation fund or a foreign ADF as defined in subsections 6(1) and 267(1) of the ITAA respectively. Essentially, an eligible entity will qualify as a foreign fund if it is established, maintained and applied for the sole purpose of providing superannuation benefits for persons other than persons who are, or would ordinarily be or become residents of Australia or a Territory.

7.11 Eligible entities that do not qualify as foreign superannuation funds or foreign ADFs are taxed in Australia on their assessable income (including dividend, interest and royalty income) under Part IX of the ITAA as if the trustee of the fund is a taxpayer and a resident (section 272).

7.12 Foreign superannuation funds are liable to tax in Australia as follows:

•

Dividend, interest and royalty income:

-

if the fund is exempt from income tax in its own country, dividend, interest and royalty income is exempt from tax in Australia; or

-

if the fund is subject to income tax in its own country, dividend, interest and royalty income is subject to withholding tax in Australia.

•

Other income:

-

the fund is assessable on other income in Australia under Part IX of the ITAA.

7.13 Foreign ADFs are liable to tax on their assessable income in Australia (including dividend, interest and royalty income) under Part IX of the ITAA.

7.14 However, the extent to which the assessable income of an eligible entity is taxed in Australia is subject to any relevant Double Tax Agreement.

Can both resident and non resident eligible entities be complying?

7.15 An eligible entity is complying and taxed concessionally if it satisfies certain requirements specified in the SISA. Currently there are no residency tests included in these requirements. Therefore, both resident and non resident eligible entities can be complying and receive concessional tax treatment.

For the purposes of the SGAA, can contributions (including the shortfall component) currently be paid to both resident and non resident superannuation funds?

7.16 For the purposes of the SGAA, contributions (including the shortfall component) must be paid to a complying superannuation fund or to a fund that is deemed to be a complying superannuation fund. A fund is deemed to be a complying superannuation fund if, when the contribution is made, the trustee has given a statement that the fund is a regulated superannuation fund that is not operating in breach of the SISA and its associated regulations.

7.17 Currently both resident and non resident superannuation funds can be regulated superannuation funds. As a consequence, these contributions can be paid to both resident and non resident superannuation funds.

What is the current tax treatment of an eligible entity that changes its residency or compliance status?

7.18 There are no special rules if an eligible entity changes its residency status. However, if a complying superannuation fund becomes a non complying superannuation fund part way through a year of income, the assessable income of the fund is calculated as if the superannuation fund has been non complying for the full year.

How do the current residency tests for eligible entities compare with other taxpayers?

7.19 Generally the ITAA provides a test to determine whether a taxpayer is an Australian resident. Taxpayers that do not satisfy the test are taxed as non-residents. However, in the case of eligible entities, the ITAA defines a foreign superannuation fund and a foreign ADF. Only those entities that satisfy these definitions are taxed as non-residents. The basic test of residence for eligible entities is more restrictive than that for other taxpayers. Under the existing provisions, a superannuation fund is treated as a non-resident if its only connection with Australia is to invest here.

Explanation of the amendments

What are the new residency tests for eligible entities?

7.20 Currently, an eligible entity is taxed as a non resident if it qualifies as a foreign superannuation fund or a foreign ADF. Eligible entities that do not qualify as foreign superannuation funds or foreign ADFs are taxed in Australia under Part IX of the ITAA as if the trustee is a taxpayer and a resident.

7.21 The Bill will insert definitions of a resident and a non resident superannuation fund into the ITAA [item 7] and residency tests for ADFs into the SISA [item 105] . It will also amend the definition of foreign superannuation fund to ensure a superannuation fund established entirely outside Australia will not lose its status because it pays pensions to residents of Australia [item 10 - new subsection 6(7A)]. 7.22 As a consequence of the amendments, an eligible entity will be taxed as a resident if it qualifies as:

•

a resident superannuation fund in relation to the year of income; or

•

an ADF; or

•

a PST.

7.23 An eligible entity will only be taxed as a non resident if it qualifies as a non resident superannuation fund in relation to the year of income. [Item 16]

When will an eligible entity qualify as a resident superannuation fund?

7.24 An eligible entity will qualify as a resident superannuation fund if it satisfies the appropriate definition in new section 6E [item 7] . The Bill will insert two definitions into the ITAA. One will define a resident superannuation fund at a particular time, the other will define a resident superannuation fund in relation to a year of income [item 11 - new subsections 6E(1) and 6E(3) respectively].

7.25 The 'at a particular time' definition is used to work out:

•

when dividend, interest or royalty income paid to a superannuation fund is subject to withholding tax;

•

when contributions paid to a fund are subject to tax under the Fringe Benefits Tax Act 1986 (FBTA); and

•

when a fund is a resident in relation to a year of income.

7.26 The 'in relation to a year of income' definition is used to determine if an eligible entity is taxed as a resident or a non resident.

7.27 Both tests are used to determine the tax treatment of certain amounts paid from a superannuation fund.

7.28 An eligible entity will qualify as a resident superannuation fund in relation to a year of income if the fund is a provident, benefit, superannuation or retirement fund at all times during the year of income when the fund is in existence and is a resident superannuation fund at any time during the year of income. [New subsection 6E(3)]

7.29 A fund will be a resident superannuation fund at a particular time only if all of the following conditions are met:

•

the fund is a provident, benefit, superannuation or retirement fund at the relevant time; and

•

either the fund was established in Australia or any asset of the fund at the relevant time is situated in Australia; and

•

at the relevant time, the central management and control of the fund is in Australia; and

•

if the fund has at least one active member, the total of accumulated entitlements of resident active members at the relevant time is 50% or more of the total of accumulated entitlements of all active members at the relevant time.

[New subsection 6E(1)]

When will an eligible entity qualify as a superannuation fund?

7.30 An eligible entity will be a superannuation fund if:

•

it is a resident or non resident scheme that pays superannuation benefits upon retirement or death; or

•

it qualifies as a superannuation fund under section 10 of the SISA.

[Item 9 - new definition of superannuation fund in subsection 6(1)]

When is a member an active member of a superannuation fund?

7.31 A member is an active member of a superannuation fund if:

•

he or she currently contributes to the fund; or

•

someone else contributes to the fund on his or her behalf (including where an employer is on a contributions holiday) and the amount contributed relates to the relevant year of income.

[Definition of active member in new subsection 6E(5)]

Why is the new residency test for superannuation funds based on active members?

7.32 The test for residency of superannuation funds is based on active members to allow the trustee of a fund to control its residency status. The trustee can ensure a fund remains a resident by refusing to accept contributions that relate to non resident members.

Can a fund be a resident superannuation fund at a particular time if it does not have an active member at the relevant time?

7.33 A fund that does not have an active member at the relevant time will be a resident superannuation fund at a particular time if it satisfies the first three conditions of that definition. That is, all of the following conditions are met:

•

the fund is a provident, benefit, superannuation or retirement fund at the relevant time; and

•

either the fund was established in Australia or any asset of the fund at the relevant time is situated in Australia; and

•

at the relevant time, the central management and control of the fund is in Australia.

When is a member a resident?

7.34 Generally a member will be a resident of Australia if he or she:

•

resides in Australia; or

•

has his or her domicile in Australia and the Commissioner is not satisfied that his or her usual place of abode is outside Australia; or

•

has been in Australia, continuously or intermittently, for more than half the year of income unless the Commissioner is satisfied that his or her permanent place of abode is outside Australia and he or she does not intend to take up residence in Australia; or

•

contributes to, or is the spouse or child under 16 of a person who contributes to, the superannuation fund for Commonwealth Government officers.

[Definition of resident in subsection 6(1) of the ITAA]

What evidence does the trustee need to establish a member's residency status?

7.35 Generally the trustee of a superannuation fund can rely on a statement from the member as to the member's residency status.

How will the accumulated entitlements of an active member be calculated?

7.36 The Bill will insert two methods into the ITAA to calculate accumulated entitlements of active members at the relevant time [definition of accumulated entitlement in new paragraph 6E(1)(d)] . The first method is used for members that are active members without defined benefits. The second method is used for members that are active members with defined benefits.

7.37 A member will be an active member without defined benefits if, in relation to that member, the fund is not a defined benefit scheme. A member will be an active member with defined benefits if, in relation to that member, the fund is a defined benefit scheme. [Definitions of active member without defined benefits and active member with defined benefits in new subsection 6E(5)]

When will a fund be a defined benefit scheme?

7.38 A fund will be a defined benefit scheme if it qualifies as a defined benefit scheme under section 6A of the SGAA assuming that subsections 6A(2) to (4) of that Act had not been enacted [definition of defined benefit scheme in new subsection 6E(5)] . That is, if it is a superannuation scheme from which the member of the scheme is entitled upon retirement to be paid a benefit based on either a specified amount and/or based on the amount of the member's annual salary at a particular date. In addition, if the scheme is not a public sector scheme, some or all of the contributions to the scheme must not relate to any particular member, but be paid into and accumulated in the form of an aggregate amount.

How will accumulated entitlements of an active member without defined benefits be calculated?

7.39 The accumulated entitlements of an active member without defined benefits is the value of the funds assets that is attributable to:

(a)

all contributions made to the fund for that member; and

(b)

total earnings on those contributions.

[Item 11 - paragraph (a) of the definition of accumulated entitlement in new paragraph 6E(1)(d) of the ITAA]

How will accumulated entitlements of an active member with defined benefits be calculated?

7.40 The accumulated entitlements of an active member with defined benefits is the amount that would be payable at that time to or for that member if he or she voluntarily ceased to be a member.

[Item 11 - paragraph (b) of the definition of accumulated entitlement in new paragraph 6E(1)(d) of the ITAA]

What is the value of the funds assets and what contributions are included for the purposes of these calculations?

7.41 The value or amount of the fund's assets is the market value of the fund's assets. That is, the amount that a willing buyer could reasonably be expected to pay to acquire the assets from a willing seller if:

•

the sale is at arm's length;

•

the assets were properly marketed; and

•

both the buyer and seller acted with knowledge and prudence.

[Item 11 - definition of value in new subsection 6E(5)].

7.42 Contributions include payments of shortfall components within the meaning of the SGAA and eligible termination payments (ETPs) rolled over to the fund. [Item 11 - definition of contributions in new subsection 6E(5)].

When will an eligible entity qualify as a non resident superannuation fund?

7.43 An eligible entity will qualify as a non resident superannuation fund if it is a provident, benefit, superannuation or retirement fund that is not a resident superannuation fund. [New subsections 6E(2) and 6E(4)]

When will an eligible entity be complying?

7.44 The proposed amendments to the SISA restrict complying status to:

•

a PST;

•

an ADF that is a resident ADF at all times during the year of income when the fund is in existence [item 107]; and

•

a superannuation fund that is a resident regulated superannuation fund at all times during the year of income when the fund is in existence [item 106].

7.45 The amendments also specify the circumstances in which a superannuation fund could lose its status as a complying superannuation fund.

[Item 109]

When will an ADF qualify as a resident ADF at a particular time?

7.46 An ADF will be a resident ADF at a particular time if all of the following conditions are met:

•

either the fund was established in Australia or any asset of the fund is situated in Australia; and

•

the central management and control of the fund is in Australia; and

•

the accumulated entitlements of resident members is 50% or more of the total assets of the fund.

[Item 105 - definition of resident ADF in new subsection 20A(1) of the SISA]

7.47 The Bill will remove the definition of a foreign ADF from subsection 267(1) of the ITAA. [Item 15]

For the purposes of working out if an ADF is a resident ADF, how are accumulated entitlements of resident members and total assets of the fund calculated?

7.48 The accumulated entitlements of resident members is the value of the funds asset's that is attributable to:

(a)

all deposits made to the fund for members who are residents; and

(b)

total earnings on those deposits.

[Item 105 - definition of accumulated entitlements of resident members in new section 20A of the SISA]

7.49 The total assets of the fund is the value of the fund's assets at that time. [Item 105 - definition of total assets of the fund in new section 20A of the SISA]

7.50 A member includes a depositor and resident has the same meaning as in the ITAA. [Item 105 - definitions in new subsection 20A(2) of the SISA]

When will a superannuation fund be a resident regulated superannuation fund at a particular time?

7.51 A superannuation fund will be a resident regulated superannuation fund at a particular time if it is a regulated superannuation fund that is a resident superannuation fund at a particular time (as defined in new subsection 6E(1) of the ITAA). [Item 104]

When will a fund be complying for the purposes of the SGAA?

7.52 The Bill will amend the SGAA to ensure only funds that are resident at all times during the year of income when the fund is in existence can be complying or deemed to be complying superannuation funds. That is, a fund must be a resident regulated superannuation fund for the purposes of the SISA. [Items 119 124]

What are the circumstances in which a superannuation fund could lose its status as a complying superannuation fund?

7.53 A superannuation fund will automatically lose its complying status if the fund is not a resident regulated superannuation fund at a particular time.

7.54 A superannuation fund cannot be made non complying unless the trustee of the fund contravenes the SISA or regulations.

7.55 If the trustee of the fund did contravene the SISA or regulations the fund can only be made non complying if:

•

either:

-

all members of the fund were directly or indirectly knowingly concerned in, or party to, the contravention; or

-

some (but not all) members of the fund were directly or indirectly knowingly concerned in, or party to, the contravention and the remaining members would not suffer any substantial financial detriment if the fund became non complying; and

•

the Insurance and Superannuation Commissioner believes that the fund should be made non complying.

[Items 110 and 111]

7.56 In making the decision to make a fund non complying, the Insurance and Superannuation Commissioner is required to have regard to the taxation consequences of the fund being made non complying, the seriousness of the contravention and all other relevant circumstances. [Item 111]

7.57 Whether a person was in any way directly or indirectly knowingly concerned in, or party to, a particular contravention may be decided on the balance of probabilities. [Item 111]

What will happen if the equal representation rules in Part 9 of the SISA are contravened?

7.58 Part 9 of the SISA sets down rules relating to the representation of employers and members in relation to the management and control of standard employer-sponsored superannuation funds. Section 87 of that Act currently provides that it is not an offence to contravene Part 9 but that a contravention may result in a fund losing its status as a complying superannuation fund.

7.59 The Bill will amend the SISA to ensure a fund will not lose its complying status if it contravenes Part 9 of the Act. Instead, a contravention of Part 9 can result in the fund being directed under section 63 of the SISA not to accept any contributions made to the fund by an employer-sponsor. [Items 113 - 116]

What will happen if a complying superannuation fund becomes non complying?

7.60 If a complying superannuation fund becomes non complying before the 1995 96 year of income of the fund, the current treatment will apply. That is, the assessable income of the fund will be calculated as if the superannuation fund has been non complying for the full year and taxed at the rate of 47%.

7.61 However, if a superannuation fund changes from complying to non complying during or after the 1995 96 year of income of the fund, the trustee of the fund will be taxed on the fund's net previous income in respect of previous years of income in the year it changes its status. [Item 22 - new subsection 288A(1)]

7.62 This treatment applies if a fund is a non complying superannuation fund in relation to the current year of income and was a complying superannuation fund in relation to the immediately preceding year of income.

7.63 The fund's net previous income in respect of previous years of income is the amount worked out using the following formula:

Asset values - Undeducted contributions


where:

Asset values is the market value of the fund's assets immediately before the start of the current year of income; and

Undeducted contributions is the total amount of undeducted contributions (as defined in section 27A) in the fund immediately before the start of the current year of income that were made by current members of the fund.

[New subsection 288A(2)]

7.64 This amount will be included in the fund's assessable income for the current year and taxed at a rate of 47%. [New Income Tax (Former Complying Superannuation Funds) Bill 1994]

What will happen if a non resident superannuation fund becomes a resident superannuation fund?

7.65 If a non resident superannuation fund becomes a resident before the 1995 96 year of income of the fund, the current treatment will apply. That is, no special rules will apply.

7.66 However, if a superannuation fund changes from a non resident to a resident during or after the 1995 96 year of income of the fund, the trustee of the fund will be taxed on the fund's net previous income in respect of previous years of income in the year it changes its status. [Item 28 - new subsection 288B(1)]

7.67 This treatment applies if a fund is a resident superannuation fund in relation to the current year of income and was a non resident superannuation fund in relation to the immediately preceding year of income.

7.68 The fund's net previous income in respect of previous years of income is the amount worked out using the following formula:

Asset values - Member contributions


where:

Asset values is the sum of the market values of the fund's assets immediately before the start of the current year of income; and

Member contributions is the total amount of contributions in the fund immediately before the start of the current year of income that were made by current members of the fund.

[New subsection 288B(2)]

7.69 This amount will be included in the fund's assessable income for the current year. As a consequence, funds which change their status from a non resident superannuation fund to a resident non complying superannuation fund, will be taxed on this amount at a rate of 47%. Funds which change their status from a non resident superannuation fund to a resident complying superannuation fund will be taxed at a rate of 15%. [New Income Tax (Former Non Resident Superannuation Funds) Bill 1994]

What about credits for foreign tax paid on the amounts included in the fund's assessable income under new subsections 288A and 288B?

7.70 The amount included in the fund's assessable income under new sections 288A and 288B will be the after tax income of the fund. Therefore, any foreign tax paid immediately before the start of the current year will be reflected in the asset values. However, foreign tax paid in the current or later years of income on any amount included under new sections 288A and 288B will not be reflected.

7.71 It is proposed to allow a resident superannuation fund a credit for foreign tax paid on any part of the fund's net previous income referred to in new subsections 288A(2) and 288B(2) provided the foreign tax is paid by the trustee in the current year of income (as defined in those subsections) or any subsequent year of income [items 19, 20, 25 and 26] . A credit will be allowed for any foreign tax paid, up to the amount of Australian tax payable by the fund.

For CGT purposes, what will happen if an asset, included in the fund's assessable income under new subsections 288A and 288B, is disposed of?

7.72 If an amount would be assessable under the CGT provisions to a taxpayer that is the trustee of a superannuation fund as a result of the disposal of an asset (the notional capital gain) and the market value of the asset was taken into account in determining the fund's net previous income in respect of previous years of income under new sections 288A or 288B , then to prevent double taxation the amount of the capital gain calculated may be reduced or extinguished.

7.73 If the notional capital gain of the asset exceeds the amount that would have been included in assessable income as a capital gain if the asset had been disposed of for its market value at the time of calculating the fund's net previous income in respect of previous years of income, then the excess is assessable under the CGT provisions.

7.74 If the notional capital gain of the asset does not exceed that amount, then no amount is included in assessable income under the CGT provisions.

[Items 21 and 27 - new subsections 160ZA(4AA) and 160ZA(4B)]

Example 1

7.75 Grierson superannuation fund sells an asset for $1,000. For CGT purposes, the indexed cost base is $800. The market value of the asset that was taken into account in determining the fund's assessable income under new section 288A was $600. The amount that would have been included in the fund's assessable income as a capital gain if it had disposed of the asset at that time is $250.

7.76 The notional capital gain will be calculated as follows:

7.77 The notional capital gain does not exceed the amount that would have been included in the fund's assessable income as a capital gain if it had disposed of the asset at the time of calculating the fund's net previous income in respect of previous years of income under new section 288A. Therefore, no amount is assessable under the CGT provisions.

Example 2

7.78 If in example 1 the indexed cost base was $400, the notional capital gain will be calculated as follows:

7.79 The notional capital gain exceeds the amount that would have been included in the fund's assessable income as a capital gain if it had disposed of the asset at the time of calculating the fund's net previous income in respect of previous years of income under new section 288A . Therefore the amount that is assessable under the CGT provisions is $350 (that is, $600 $250).

What rate of tax will apply to assessable income derived by non resident superannuation funds?

7.80 As a consequence of the amendments restricting complying status to resident superannuation funds, non-resident superannuation funds will be taxed on their assessable income (excluding dividend, interest and royalty income) at the rate of 47%, subject to the terms of any relevant double tax agreement.

How will non resident superannuation funds be taxed on dividend, interest and royalty income?

7.81 The existing exemption for superannuation funds that qualify as foreign superannuation funds will remain unchanged. However, other non resident superannuation funds will be subject to withholding tax in Australia on dividend, interest and royalty income they derive in the same way as other non resident taxpayers. That is, dividend withholding tax will be imposed on the gross amount of dividends paid. Withholding tax on unfranked dividends is generally imposed at a flat rate of 30%. However, if the fund is a resident of a country with which Australia has a double tax agreement the rate is 15%. A non-resident superannuation fund will be exempt from dividend withholding tax on franked dividends.

7.82 In relation to interest income, withholding tax will be imposed on the gross amount of interest received from Australian sources by non-resident superannuation funds generally at the flat rate of 10%. This rate is unaffected by Australia's double tax agreements.

7.83 Royalties will generally be subject to a final withholding tax of 30%, subject to any relevant double tax agreement.

7.84 Consequently, the Bill will remove the current withholding tax exemption for non resident superannuation funds (but not for foreign superannuation funds). [Item 32]

7.85 For the purposes of the dividend, interest and royalty withholding tax provisions, the trustee of a provident, benefit, superannuation or retirement fund will be a non resident if the fund is a non resident at that particular point in time. The trustee includes the person who manages the fund. [Items 31 and 33 - new subsections 128A(10), 128A(11), 221YK(4) and 221YK(5)]

Section 2 - Taxation treatment of superannuation contributions

Summary of the amendments

Purpose of the amendments

7.86 The amendments will:

•

restrict the existing deduction and rebate provisions for member contributions to amounts paid to a (resident) complying superannuation fund;

•

restrict the existing exemption under the FBTAA that applies to superannuation fund contributions to employer contributions paid to a (resident) complying superannuation fund and to employer contributions paid to a non resident superannuation fund in respect of an employee who has a temporary entry permit for a period of up to four years;

•

restrict the existing deduction provisions for employer superannuation contributions to amounts paid to a (resident) complying superannuation fund;

•

allow an employer a deduction for contributions to a non complying superannuation fund for the benefit of an employee (other than contributions paid to a non resident superannuation fund in respect of an employee who has a temporary entry permit for a period of up to four years);

•

include the following amounts in the assessable income of a superannuation fund as taxable contributions:

(a)

all contributions made to a resident superannuation fund other than personal contributions made by the member which do not qualify for a tax deduction and contributions made by the trustee of an exempt life assurance fund, a complying superannuation fund, a complying ADF or a PST; and

(b)

all contributions made to a non resident superannuation fund that relate to a period the member is or was a resident of Australia or a non resident deriving salary and wage income that is assessable in Australia other than personal contributions paid by the member and contributions paid by another person in respect of a member who has a temporary entry permit for a period of up to four years;

•

allow eligible entities to claim a deduction for the amount of taxable contributions included in assessable income that are fringe benefits;

•

allow ADFs and resident superannuation funds a deduction for the cost of collecting all contributions; and

•

allow non resident superannuation funds to claim a deduction for the cost of collecting contributions only if the contributions are taxable contributions.

Date of effect

7.87 The amendments to the FBTAA apply to benefits provided on or after 1 July 1994.

7.88 The amendments to deductions for employer superannuation contributions will apply to contributions made to a fund in the 1994 95 and subsequent years of income.

7.89 The other amendments apply to assessments made in respect of the 1994 95 and subsequent years of income.

Background to the legislation

When can taxpayers claim a deduction or a rebate for superannuation contributions?

7.90 Currently, members can claim a deduction or a rebate for personal superannuation contributions paid to a complying superannuation fund in limited circumstances.

7.91 An employer can only claim a deduction for superannuation contributions under Subdivision AA of Division 3 of Part III of the ITAA. To qualify for a deduction, the contributions must be paid to a complying or non-complying fund for the purposes of providing superannuation benefits for, or for dependants of, an eligible employee. Section 82AAC places a limit on the amount an employer can claim as a deduction.

Are deductions and rebates for superannuation contributions restricted to amounts paid to resident funds?

7.92 Under the existing law, a fund is a non resident if it qualifies as a foreign superannuation fund. A foreign superannuation fund cannot accept contributions in respect of a resident member or a from a resident employer.

7.93 Consequently, deductions and rebates for superannuation contributions are restricted to amounts paid to funds that are currently taxed as residents.

Are employer contributions currently subject to fringe benefits tax?

7.94 Contributions paid or set aside by an employer to a superannuation fund are specifically excluded from fringe benefits tax (FBT).

Are contributions currently included in the assessable income of an eligible entity?

7.95 Member contributions which have been claimed as a tax deduction and contributions paid by an employer are generally included in the assessable income of an eligible entity as taxable contributions. However, contributions paid by the trustees of an exempt life assurance fund, a complying superannuation fund, a complying ADF or a PST are not included.

How are member contributions treated if a deduction is not allowed?

7.96 Contributions made after 30 June 1983 for which no deduction is or has been allowed, other than contributions made by an employer, are treated under the ETP Subdivision as either undeducted contributions or undeducted purchase price. The contributions are treated as undeducted contributions if the benefit paid is a lump sum. Undeducted contributions are not included in assessable income. The contributions will be included in undeducted purchase price if the benefit paid is a pension or an annuity. Undeducted purchase price is excluded from assessable income over the term the pension or annuity is received.

What deductions can an eligible entity currently claim in respect of collecting contributions?

7.97 An eligible entity (other than a PST) can claim a deduction for the costs of collecting all contributions, even in respect of most contributions that are not taxable.

Explanation of the amendments

What are the new rules for taxpayers claiming a deduction or a rebate for personal superannuation contributions?

7.98 Currently, members can claim a deduction or a rebate for personal superannuation contributions paid to a complying superannuation fund in limited circumstances. The proposed amendments to the SISA will restrict deductions and rebates for these contributions to amounts paid to a resident superannuation fund.

What changes will be made to employer contributions?

7.99 Employers will continue to be entitled to deductions for superannuation contributions only under Subdivision AA of Division 3 of Part III of the ITAA [item 40] . However, the deduction limits in section 82AAC will be restricted to contributions paid to a complying superannuation fund [item 38] or to a non complying superannuation fund provided that the taxpayer making the contribution had reasonable grounds for believing that the fund was a complying fund [item 39 - new subsection 82AAD].

7.100 Any contributions paid by an employer to a non resident superannuation fund in relation to an eligible employee who is an exempt visitor for the purposes of section 517 of the ITAA will be not be allowable as a deduction [item 39 - new subsection 82AAE] . Such contributions will not be fringe benefits and therefore will not be subject to tax under the FBTAA [item 2 - new subparagraph (j)(ii) of the definition of fringe benefit in subsection 136(1) of the FBTAA] .

7.101 Any other contributions paid by an employer for eligible employees to a non complying superannuation fund will be deductible. The amount of the deduction will not be limited to the amounts specified in section 82AAC [item 39 - new subsection 82AAE] . However, these contributions will be fringe benefits and subject to tax under the FBTAA [item 2].

What are reasonable grounds for believing a fund is a complying superannuation fund?

7.102 The test to determine if a taxpayer has reasonable grounds for believing a fund is a complying superannuation fund will be the same as the test used in section 25(1) of the SGAA. That is, a taxpayer will have reasonable grounds for believing a fund is a complying superannuation fund if, at or before the time the contribution or payment is made, the taxpayer has obtained a written statement from the trustee of the fund stating that:

•

the fund is a resident regulated superannuation fund; and

•

the fund is not subject to a direction from the Insurance and Superannuation Commissioner that would prevent the trustee from accepting the contributions.

7.103 A fund is subject to a direction if it has contravened the requirements of the SISA and/or its associated regulations. However, a contravention of the SISA or regulations is to be ignored unless it is an offence or the contravention of a civil penalty provision.

7.104 A taxpayer cannot presume a fund is complying if he or she has reasonable grounds for believing the fund is not a resident regulated superannuation fund or is operating in breach of the SISA and/or its associated regulations.

[Items 4 and 39 - new sections 136AB of the FBTAA and 82AAD of the ITAA]

7.105 Section 25(1) of the SGAA will be amended to ensure an employer does not have to obtain a written statement from the trustee of a superannuation fund every time a contribution is made. Instead, the notice must be obtained at or before the time the contribution or payment is made. After receiving such a notice the employer can presume that the fund retains its complying status until he or she has reasonable grounds for believing otherwise. [Item 121]

When is an eligible employee an exempt visitor?

7.106 An eligible employee will be an exempt visitor if he or she is a resident of Australia for a year of income and all of the following conditions are satisfied:

•

the employee has a temporary entry permit granted under the Migration Act 1958; and

•

the period of time from the issue date of the current permit until its expiry date is four years or less or where the current permit was issued as an extension of an earlier permit the period of time from the issue date of the earliest permit is four years or less; and

•

the employee is not awaiting the outcome of an application for a permanent entry permit under the Migration Act 1958.

7.107 For the purposes of the these tests, a new entry permit issued under the Migration Act 1958 as an extension of the original entry permit is considered to be an extension of the original permit.

[Definition of Who is an exempt visitor in subsection 517(2) of the ITAA]

Will other changes be made as a consequence of allowing deductions for employer contributions?

7.108 As a consequence of allowing deductions for superannuation contributions made by employers under section 82AAC and new subsection 82AAE , the Bill will ensure contributions paid to non complying superannuation funds (other than contributions paid to a non resident superannuation fund in respect of an exempt visitor) continue to be taken into account in working out if a deduction is allowed for financing costs or calculating the amount included as expenditure on research and development activities. [Items 36 and 37 - amended section 67AAA and the definition of contributions to superannuation funds in subsection 73B(1)]

What changes will be made to contributions included in the assessable income of an eligible entity?

7.109 To ensure lower tax rates only apply to payments that have the relevant amount of tax brought forward, the taxable contributions of a fund that is a resident superannuation fund in relation to the year of income will include:

•

all contributions made to the fund by a person (regardless of whether a tax deduction is allowed) other than contributions paid by the member, or the trustee of an exempt life assurance fund, a complying superannuation fund, a complying ADF or a PST; and

•

the untaxed element of the post June 83 component of an ETP rolled over.

[Item 44 - new paragraph (a) of the definition of taxable contributions in subsection 274(1)]

7.110 The taxable contributions of a resident superannuation fund will also include certain amounts transferred from some non resident superannuation funds. The amount to be included is explained in paragraph 7.184.

7.111 The taxable contributions of a fund that is a non resident superannuation fund in relation to the year of income will include contributions paid by a person (other than personal contributions paid by the member and contributions paid by another person in respect of a member who is an exempt visitor) that relate to a period the member is or was:

•

a resident of Australia; or

•

a non-resident deriving salary and wage income that is assessable in Australia.

[Item 44 - new paragraph (aa) of the definition of taxable contributions in subsection 274(1)].

7.112 Taxable contributions include all employer contributions other than contributions paid to a non-resident superannuation fund in respect of an employee who is an exempt visitor. Therefore, employer contributions that are in excess of the maximum deduction limits and employer contributions that are fringe benefits are included in taxable contributions. In addition, deductible contributions made by members will continue to be taxable contributions.

7.113 As a consequence of these amendments, the Bill will omit redundant definitions. [Item 43]

What about contributions that are fringe benefits?

7.114 The Bill will include certain contributions, including those contributions that are fringe benefits and have been subject to tax under the FBTAA, in the assessable income of an eligible entity as taxable contributions. This will ensure these contributions are taxed in Australia and allow the fund a deduction for the costs incurred in collecting them. To prevent double taxation, eligible entities will be entitled to a deduction for the amount of taxable contributions included in assessable income that are fringe benefits. [Item 50 - new section 277A]

What deductions will an eligible entity be able to claim in respect of collecting contributions?

7.115 ADFs and resident superannuation funds will be entitled to a deduction for the cost of collecting all contributions. However, non resident superannuation funds will only be entitled to a deduction for the cost of collecting taxable contributions. [Item 53 - new section 277]

Section 3 - Tax treatment of payments from superannuation funds, ADFs and certain payments made in consequence of termination of employment

Summary of the amendments

Purpose of the amendments

7.116 The amendments will:

•

exempt certain payments made in consequence of the termination of overseas projects or overseas employment from tax;

•

exempt certain payments made from eligible resident non complying superannuation funds from tax;

•

introduce specific rules for taxing lump sum payments made from certain non resident superannuation funds;

•

include as a taxable contribution certain amounts transferred from some non resident superannuation funds to resident superannuation funds;

•

tax certain pensions and annuities paid from non resident superannuation funds under section 27H;

•

exempt certain pensions and annuities paid from resident non complying superannuation funds from tax;

•

allow ETPs to be rolled-over into an Australian source only; and

•

extend the current exemption for amounts that are taxed under the foreign investment fund measures to include amounts that are assessed under the ETP Subdivision.

Date of effect

7.117 The amendments to the foreign investment fund measures apply in relation to amounts paid on or after 1 January 1993.

7.118 The amendments to allow ETPs to be rolled-over into an Australian source only apply to amounts paid to a life insurance company on or after 1 July 1994.

7.119 The other amendments apply in relation to payments made on or after 1 July 1994 or to assessments made in respect of the 1994 95 and subsequent years of income.

Background to the legislation

When is a payment from a superannuation fund or ADF taxable in Australia?

7.120 Subject to the terms of any Double Tax Agreement, a payment from a superannuation fund or ADF is taxable in Australia if it is received by an Australian resident or paid from an Australian source.

How are payments from a superannuation fund or ADF taxed in Australia?

7.121 Generally a payment from a superannuation fund or ADF is taxed in Australia as either:

•

eligible foreign remuneration or foreign earnings under sections 23AF or 23AG respectively;

•

an ETP under Subdivision AA of Division 2 of Part III of the ITAA (the ETP Subdivision); or

•

an annuity under section 27H of the ITAA.

Are any other payments taxed in the same way as payments from a superannuation fund or ADF?

7.122 The tax treatment of payments (other than pensions or annuities) from a superannuation fund or ADF also applies to certain payments made in consequence of termination of employment.

When are these payments treated as eligible foreign remuneration or foreign earnings?

7.123 Broadly, these payments are treated as eligible foreign remuneration or foreign earnings if:

•

the payment is paid to a resident of Australia;

•

the payment is a lump sum termination payment (including a lump sum redundancy payment made because of early termination of an employment contract or a superannuation payment paid from a foreign based superannuation fund);

•

the payment accrued solely from service in a foreign country that:

•

- was for a continuous period of not less than 91 days; and

•

- during which the taxpayer was working on an approved project, the holder of an office or an employee;

•

the payment, generally speaking, was subject to foreign tax; and

•

the payment is not a pension or an annuity.

How is eligible foreign remuneration or foreign earnings taxed?

7.124 If the conditions in sections 23AF or 23AG are met, eligible foreign remuneration and foreign earnings are exempt from tax in Australia. In addition, a credit is not allowed for any foreign tax paid on the exempt amount. However, the exempt amount is taken into account in determining the rate of tax on other taxable income.

When are these payments ETPs under the current law?

7.125 Generally, the payment is an ETP if it is not a pension, annuity or an unauthorised benefit and the payment is made:

•

in consequence of termination of employment;

•

from a superannuation fund (as defined in subsection 27A(1));

•

from an ADF; or

•

in relation to the commutation or residual capital value of a superannuation pension or a qualifying annuity.

For the purposes of the ETP Subdivision, what is a superannuation fund?

7.126 For the purposes of the ETP Subdivision, a superannuation fund is a provident, benefit, superannuation or retirement fund that has at any time received concessional tax treatment in Australia. For example, a fund will qualify as a superannuation fund if paragraph 23(jb) applies or has applied in relation to any year of income.

7.127 An eligible entity will also qualify as a superannuation fund if it is a scheme for the payment of benefits upon retirement or death that is constituted by or under a law of the Commonwealth, State or Territory.

7.128 A fund that is and has always been taxed as a non complying superannuation fund is not a superannuation fund for the purposes of the ETP Subdivision. As a consequence, a lump sum payment from such a fund is not an ETP and not included in assessable income.

How is an ETP taxed?

7.129 An ETP is split into several components. The amount of each component that is not rolled over is included in a taxpayer's assessable income as follows:

•

undeducted contributions and post June 1994 invalidity component - not included in assessable income;

•

non-qualifying and excessive component - the full amount is included in assessable income;

•

pre-July 83 component and concessional components - 5% of these amounts are included in assessable income; and

•

taxed and untaxed elements of the post June 83 component - the full amount is included in assessable income and taxed at special rates.

Can ETPs currently be rolled over to a non resident fund?

7.130 Taxpayer's can defer paying tax on a qualifying ETP by rolling over some or all of the payment to a complying superannuation fund, a complying ADF, or to a life assurance company or registered organisation to purchase an annuity (subsection 27A(12)). As a non resident fund can be a complying fund, payments can be rolled over out of Australia.

When will the payment be treated as an annuity under section 27H?

7.131 A payment is assessable under section 27H of the ITAA if it is an annuity or a supplement to an annuity. For the purposes of this section, an annuity includes pensions paid from a superannuation fund, but does not include an annuity that is a qualifying security for the purposes of Division 16E.

How is an annuity (included under section 27H) taxed?

7.132 Section 27H includes in assessable income the whole of any superannuation pension or annuity reduced by the deductible amount. The deductible amount is broadly the undeducted purchase price (UPP) divided by the term of the pension or annuity.

7.133 UPP (defined in subsection 27A(1)) is essentially the amount of contributions made by the member to the superannuation fund to obtain/purchase the pension or annuity that have not been claimed in Australia as a tax deduction or, if any contributions were paid before 1 July 1983, the taxpayer did not get a tax rebate.

7.134 The pension or annuity may also qualify for a rebate of tax if it is paid from a taxed superannuation fund. A taxed superannuation fund is a superannuation fund (for the purposes of the ETP Subdivision) that is not a constitutionally protected fund within the meaning of Part IX of the ITAA. A rebate is available only if the fund is a complying superannuation fund. Therefore, a pension or annuity paid from a fund that is and has always been taxed as a non complying superannuation fund does not qualify for a rebate.

What if the payment has been taxed overseas?

7.135 Resident taxpayers are generally entitled to claim a credit for foreign tax paid on foreign income. Foreign income is defined in subsection 6AB(1) of the ITAA as income derived from sources in a foreign country (including certain attributable income from a non resident trust estate and a controlled foreign company) but does not include income that is exempt from tax. For example, a credit is not allowed for foreign tax paid on income that is exempt from tax under section 23AF or section 23AG.

7.136 For the purposes of calculating the amount of credit to be allowed, three classes of foreign income are identified. These are:

(a)

(a) passive income (e.g., dividends, interest, annuities, rental income, royalties, an amount received as consideration for an assignment of property or a right, profits of a capital nature, certain commodity gains and certain attributable income from a non-resident trust estate and a controlled foreign company - section 160AEA);

(b)

(b) offshore banking income (ie, income derived from offshore banking transfers and dividends paid out of profits from the making of the off-shore banking transfer); and

(c)

(c) other income.

7.137 The amount of credit is calculated separately for each class of foreign income (subsection 160AF(7)). For each class, the credit is limited to the lesser of:

•

the amount of foreign tax paid on that class of foreign income; and

•

the amount of Australian tax payable in respect of that income.

7.138 If the foreign tax is not fully utilised, the excess may be carried forward for a maximum period of five years. This excess can only be offset against Australian tax payable on future foreign income.

7.139 A credit is generally allowed for foreign tax paid on payments that are taxed as ETPs.

What about the foreign investment fund (FIF) measures?

7.140 In addition to the tax treatment outlined above, a taxpayer may have been assessed on some or all of the payment under the FIF measures. Essentially, the FIF measures apply to income and gains accumulating in an eligible entity that is not a resident Part IX entity. However, the measures do not apply if:

•

the FIF is a foreign employer sponsored superannuation fund and the taxpayer is or was an employee of the employer or of a company associated with the employer (section 518);

•

the total value of a taxpayer's interests in foreign companies, trusts and foreign life policies is less than or equal to $50,000 at the end of the taxpayer's income year (section 514); or

•

the taxpayer is a visitor to Australia and holds a temporary entry permit granted under the Migration Act 1958, which allows no more than a 4 year stay and the taxpayer has not applied for, or been given, permanent residency in Australia (section 517).

For the purposes of the FIF measures what is a resident Part IX entity?

7.141 For the purposes of the FIF measures, an eligible entity is a resident Part IX entity at a particular time if it:

•

was established in Australia; or

•

had its central management and control in Australia at any time during the past 12 months (section 477).

What if the payment includes amounts that have been taxed under the FIF measures?

7.142 Generally, that part of a payment received by a taxpayer which relates to amounts that have already been taxed under the FIF measures is exempt from Australian tax (section 23AK). However, this exemption does not apply to amounts that are assessed under the ETP Subdivision.

Explanation of the amendments

What are the new rules for taxing these payments?

7.143 Subject to the terms of any Double Tax Agreement, these payments will be taxed under the ETP Subdivision. The tax treatment that will apply to the payment will depend on whether the payment is:

•

an exempt resident foreign termination payment;

•

an exempt non resident foreign termination payment;

•

a payment from an eligible non resident non complying superannuation fund;

•

a payment from an eligible resident non complying superannuation fund;

•

an ETP; or

•

an annuity.

What changes will be made to ensure these payments are not treated as eligible foreign remuneration or foreign earnings?

7.144 The Bill will amend sections 23AF and 23AG to ensure the following amounts do not qualify as eligible foreign remuneration or foreign earnings:

•

payments/amounts that are included in assessable income under the ETP Subdivision (for example, ETPs and annuities); and

•

payments/amounts that are excluded from the definition of ETP because the payment is:

•

- the tax free amount of a bona fide redundancy payment, or of an approved retirement scheme payment, made on or after 1 July 1994 (paragraph (ja));

•

- a payment made by way of advance or loan (paragraph (k));

•

- an exempt resident foreign termination payment or an exempt non resident foreign termination payment (new paragraph (ka)),

•

- consideration of a capital nature for, or in respect of, a legally enforceable contract in restraint of trade by the taxpayer (paragraph (m));

•

- a lump sum payment from an eligible resident non complying superannuation fund or an eligible non resident non complying superannuation fund (new paragraph (ma));

•

- consideration of a capital nature for, or in respect of, personal injury to the taxpayer (paragraph (n)); or

•

- a transfer of an amount that is a taxable contribution under subsection 274(10) of the ITAA (paragraph (p)).

[Items 56 - 62]

What is an exempt resident foreign termination payment?

7.145 A payment will qualify as an exempt resident foreign termination payment if:

(a)

(a) the payment is made in consequence of the termination of the taxpayer's employment or qualifying service in relation to a project, the payment is not from a superannuation fund (as defined in subsection 6(1)) and the payment would have been an ETP if it was not excluded because of new paragraphs (ka) and (ma) of that definition; or

(b)

(b) the payment is made from an eligible non resident non complying superannuation fund within 6 months after the taxpayer terminated the employment or qualifying service in paragraph (a) and the payment would have been an ETP if:

•

the payment was not excluded because of new paragraphs (ka) or (ma) of the definition of ETP; and

•

the fund was a superannuation fund for the purposes of the ETP Subdivision.

7.146 The employment must be for service in a foreign country or the qualifying service in respect of an approved project for the purposes of section 23AF and the payment must not be exempt from tax under the law of the foreign country (that is, the payment must be taxed in the foreign country).

7.147 In addition, the taxpayer must be a resident of Australia throughout the period of the employment or qualifying service and the following conditions must be met:

•

apart from this payment, all the taxpayer's foreign earnings from that employment or eligible foreign remuneration derived by the taxpayer that was attributable to the qualifying service must be exempt from tax in Australia under section 23AG or section 23AF; and

•

the payment must relate solely to that period of employment or qualifying service.

[Item 64 - new definition of exempt resident foreign termination payment in subsection 27A(1)]

What is an eligible non resident non complying superannuation fund

7.148 An eligible non resident non complying superannuation fund is a non resident superannuation fund that:

•

is a continuously non complying superannuation fund; or

•

is a non complying superannuation fund that ceased to be a complying superannuation fund on or after 1 July 1995.

[Definition inserted by item 75]

How will an exempt resident foreign termination payment be taxed in Australia?

7.149 Exempt resident foreign termination payments will be exempt from tax in Australia [item 66 - new section 27CD] . However, these payments will be taken into account in determining the tax payable on other taxable income.

7.150 To ensure the payment is not assessable in Australia, the Bill will exclude the payment from:

•

the ETP definition [item 63 - new paragraph (ka) of the definition of ETP in subsection 27A(1)] ; and

•

the definition of fringe benefit [item 2 - new paragraph (ka) of the definition of fringe benefit in subsection 136(1) of the FBTAA] .

7.151 As the payment will not be an ETP it cannot be rolled over and will not count towards the recipient's reasonable benefit limit. Nor will it be subject to FBT.

7.152 CGT will not apply to any part of the payment because subsection 160ZA(7) specifically exempts from CGT an amount that would have been included in assessable income if a provision in the ITAA did not exempt it.

What if the taxpayer has paid tax overseas on the exempt resident foreign termination payment?

7.153 A credit is not allowed in Australia for foreign tax paid on income that is exempt from tax. As exempt resident foreign termination payments will be exempt from tax in Australia, no credit will be allowed for any foreign tax paid on these payments.

If a taxpayer receives an exempt resident foreign termination payment, how will the amount of tax payable on other income be calculated?

7.154 If a taxpayer receives an exempt resident foreign termination payment and other income that is not exempt from tax in Australia, then the amount of tax payable in respect of the other income is calculated as if the payment was exempt under sections 23AF or 23AG. The payment is treated as being exempt under section 23AF if it relates to the termination of qualifying service. If the payment relates to the termination of employment, then for the purposes of calculating the amount of tax payable the payment is treated as being exempt under section 23AG. [Items 59 and 61 - new subsections 23AF(17C) and 23AG(5)]

7.155 Irrespective of which section applies, the amount of tax payable in respect of the other income will be calculated using the formula in subsections 23AG(3) or 23AF(17A). That is:

Notional gross tax/Notional gross taxable income * Other taxable income


Where:

Notional gross taxable income is the amount that would have been the taxpayer's total taxable income if:

(a)

any eligible foreign remuneration or foreign earnings was not exempt under sections 23AF or 23AG; and

(b)

the gross amount of the exempt resident foreign termination payment reduced by the total amount of contributions made by the member was included in assessable income [items 58 and 60 - new paragraph (aa) of the definition of notional gross tax in subsections 23AF(17A) and 23AG(3)].

Notional gross tax is the tax (including medicare levy) that would be assessed on the notional gross taxable income. For the purposes of this calculation marginal tax rates will apply to the amount of the exempt resident foreign termination payment included in the notional gross taxable income. Rebates are not included in this calculation.

Other taxable income is the amount of non exempt assessable income reduced by:

-

any allowable deductions that solely relate to that income; and

-

the amount of apportionable deductions allowable.

7.156 The amount of apportionable deductions allowable is calculated using the following formula (see subsections 23AG(4) and 23AF(17B)):

(Apportionable deductions) * [Other taxable income without regard to apportionable deductions/(Apportionable deductions + Notional gross taxable income)]


Example 3

7.157 Sandy is a resident and has a total income of $50 000 for the taxation year ending 30 June 1995. This amount includes:

•

an exempt resident foreign termination payment of $6,000;

•

exempt foreign earnings (excluding the exempt resident foreign termination payment) of $32 000;

•

Australian interest of $4 000; and

•

Australian rental income of $8 000.

7.158 The exempt resident foreign termination payment includes contributions of $300 paid by Sandy.

7.159 In earning this income, Sandy incurred the following allowable expenses:

-

$1 700 in earning the exempt foreign earnings; and

-

$2 000 was a gift to an approved charity.

Step 1 - Calculate Sandy's notional gross taxable income

7.160 Sandy's notional gross taxable income will be calculated as follows:

Step 2 - Calculate the notional gross tax

7.161 Notional gross tax (including medicare levy) on $46 000 is $13 026.00

Step 3 - Calculate the amount of apportionable deductions allowable

7.162 The amount of apportionable deductions allowable is calculated as follows:

$2000 * [(4 000 + 8 000)/(2 000 + 46 000)] = $500


Step 4 - Calculate other taxable income

7.163 Sandy's other taxable income is $11 500

(i.e., [(4 000 + 8 000) - 500])


.

Step 5 - Calculate the tax payable on other taxable income

7.164 The tax payable on Sandy's other taxable income is calculated using the formula:

(Notional gross tax/Notional gross taxable income) * Other taxable income = $13,026/$46,000 x $11,500 = $3256.50


7.165 Sandy would also have to pay provisional tax.

What is an exempt non resident foreign termination payment?

7.166 A payment will qualify as an exempt non resident foreign termination payment if the payment would have been an ETP (assuming that new paragraphs (ka) and (ma) of that definition were not inserted) and either:

(a)

the payment is made in consequence of the termination of the taxpayer's employment, the payment is not from a superannuation fund (as defined in subsection 6(1)) and the payment would have been an ETP if it was not excluded because of new paragraphs (ka) and (ma) of that definition; or

(b)

the payment is made from an eligible non resident non complying superannuation fund (explained in paragraph 7.148) within 6 months after the taxpayer became a resident of Australia and the payment would have been an ETP if:

•

the payment was not excluded because of new paragraphs (ka) or (ma) of the definition of ETP; and

•

the fund was a superannuation fund for the purposes of the ETP Subdivision.

7.167 In addition, if the payment is from an employer, the employment must be for service in a foreign country and the payment must relate solely to that period of employment.

7.168 If the payment is from an eligible non resident non complying superannuation fund, it must also satisfy the following conditions:

•

the amount paid must not exceed the amount that was properly payable out of the fund to the taxpayer at the time the payment was made. That is, the amount must not relate to future years; and

•

the period to which the payment relates must not include any period other than a period the taxpayer was a non resident or a period between the time the taxpayer became a resident and the time the taxpayer received the payment.

[Item 64 - new definition of exempt non resident foreign termination payment in subsection 27A(1)]

How will an exempt non resident foreign termination payment be taxed in Australia?

7.169 Exempt non resident foreign termination payments will be exempt from tax in Australia and will not be taken into account in determining the tax payable on other taxable income. [Item 66 - new section 27CD]

7.170 To ensure the payment is not assessable in Australia, the Bill will exclude the payment from:

•

the ETP definition [item 63 - new paragraph (ka) of the definition of ETP in subsection 27A(1)] ; and

•

the definition of fringe benefit [item 2 - new paragraph (ka) of the definition of fringe benefit in subsection 136(1) of the FBTAA].

7.171 As the payment will not be an ETP it cannot be rolled over and will not count towards the recipient's reasonable benefit limit. Nor will it be subject to FBT.

7.172 CGT will not apply to any part of the payment because subsection 160ZA(7) specifically exempts from CGT an amount that would have been included in assessable income if a provision in the ITAA did not exempt it.

What if the taxpayer has paid tax overseas on the exempt non resident foreign termination payment?

7.173 A credit is not allowed in Australia for foreign tax paid on income that is exempt from tax. As exempt non resident foreign termination payments will be exempt from tax in Australia, no credit will be allowed for any foreign tax paid on these payments.

How will lump sum payments from eligible non resident non complying superannuation funds be taxed if they are not exempt under new section 27CD?

7.174 The tax treatment of a lump sum payment (other than an exempt resident foreign termination payment and an exempt non resident foreign termination payment) from an eligible non resident non complying superannuation fund (explained in paragraph 7.148) depends on whether the payment would have been an ETP if:

•

the payment was not excluded because of new paragraph (ma) of the definition of ETP; and

•

the fund was a superannuation fund for the purposes of the ETP Subdivision.

7.175 If the payment would have been an ETP, then the following amount is included in the taxpayer's assessable income:

Gross amount - (Accumulated entitlement + Additional contributions)


Where:

Gross amount is the full amount of the payment that was properly payable from the fund on the day the payment was made before any foreign taxes or other amounts were deducted;

Accumulated entitlement is the amount properly payable to the taxpayer on the day before the relevant day;

Additional contributions is the amount of contributions included in the gross amount that were paid on or after the relevant day by the taxpayer and the employer of the taxpayer; and

Relevant day is either the day the taxpayer became a member of the fund or the first day during the period to which the payment relates that the taxpayer became a resident of Australia, whichever is later.

[Item 76 - new section 27CAA]

7.176 To ensure this payment is not assessable in Australia under other provisions of the ITAA or taxed as a fringe benefit, the Bill will exclude it from the ETP definition and the definition of fringe benefit. [Item 70 and item 2 - new paragraph (ma) of the definition of ETP in subsection 27A(1) and new paragraph (kb) of the definition of fringe benefit in subsection 136(1) of the FBTAA]

7.177 The Bill will also exclude eligible non resident non complying superannuation funds from the definition of superannuation fund in the ETP Subdivision. [Item 82]

7.178 As a consequence of these amendments the payment will not be an ETP. Therefore, it cannot be rolled over or counted towards the recipient's reasonable benefit limit. It will not be subject to FBT.

7.179 A payment from an eligible non resident non complying superannuation fund to a member of the fund will also be exempt from CGT (section 160ZZJ).

How will a pension or annuity from an eligible non resident non complying superannuation fund be taxed?

7.180 A pension or annuity from an eligible non resident non complying superannuation fund (that is not a qualifying security for the purposes of Division 16E), is taxed under section 27H [item 89 - paragraph (b) of the new definition of annuity in subsection 27H(4)]. The whole of any superannuation pension or annuity paid from an eligible non resident non complying superannuation fund reduced by the deductible amount is included in the taxpayer's assessable income.

7.181 Rebates on pensions and annuities taxed under section 27H are restricted to payments from resident superannuation funds [item 83 - new paragraph (c) of the definition of taxed superannuation fund in subsection 27A(1)]. Consequently, a rebate is not allowed on any pension or annuity paid from an eligible non resident non complying superannuation fund.

What if the trustee of an eligible non resident non complying superannuation fund transfers an amount for a member of the fund to a resident superannuation fund?

7.182 The tax treatment of an amount transferred by the trustee of an eligible non resident non complying superannuation fund for a member of the fund to a resident superannuation fund will depend on the amount transferred.

7.183 The member will be assessed on the amount that he or she would be entitled to receive on the day the transfer took place (that is, the amount properly payable to the member on that day) under new sections 27CD or 27CAA. Consequently this amount will be member undeducted contributions in the hands of the trustee of the resident superannuation fund. Therefore it will not be included in the assessable income of the resident superannuation fund and the period of membership in the eligible non resident non complying superannuation fund will not be part of the eligible service period of any future payment from the resident fund.

7.184 All other amounts transferred from the eligible non resident non complying superannuation fund to the resident superannuation fund (including the amount that exceeds the amount the member would be entitled to receive on the day the transfer took place), will be included in the assessable income of the resident superannuation fund as a taxable contribution. [Item 79 - new paragraph (c) of subsection 274(10)]

7.185 When an amount is ultimately paid by the resident superannuation fund to the member, the amount will be an ETP and split into the various components based on the member's period of membership in the resident fund only.

What if the taxpayer has paid tax overseas on the amount paid from an eligible non resident non complying superannuation fund?

7.186 A resident taxpayer is generally entitled to claim a credit for foreign tax paid on any foreign income that is included in the taxpayer's assessable income.

7.187 Consequently, if some or all of a payment from an eligible non resident non complying superannuation fund is included in the taxpayer's assessable income (other than a payment included under new section 27CAA) , a credit will be allowed for foreign tax paid on the same basis as other foreign income.

7.188 If some or all of the payment is included in the taxpayer's assessable income under new section 27CAA a credit will also be allowed for foreign tax paid. However, the amount of credit is limited to the lesser of the following amounts:

•

the amount calculated using the following formula [item 77 - new subsection 160AF(6)]:

Actual foreign tax * (Assessable component/Gross amount of payment)


Where:

Actual foreign tax is the amount of foreign tax actually paid by the taxpayer in respect of this payment;

Assessable component is the amount of the payment included in the taxpayer's assessable income under new section 27CAA (the assessable component); and

Gross amount of payment is the gross amount of the payment. That is, the full amount of the payment due before any foreign taxes or other amounts were deducted from the payment; and

•

the amount of Australian tax payable on the assessable component (that is, the amount ascertained by applying the average rate of Australian tax of the taxpayer of the year of income to the assessable component).

7.189 To ensure the amount included under new section 27CAA qualifies as foreign income, the Bill will amend the definition of foreign income in subsection 6AB(1). [Item 74]

7.190 In addition, to prevent any excess credit for foreign tax paid on the amount being offset against other foreign income, this amount will be treated as a separate class of income [item 78 - new paragraph 160AF(7)(ba)] . If the foreign tax is not fully utilised, the excess may be carried forward for a maximum period of five years. This excess can only be offset against Australian tax payable on future foreign income included under, new section 27CAA.

What is an eligible resident non complying superannuation fund?

7.191 A fund is an eligible resident non complying superannuation fund if:

•

the fund is either a continuously non complying superannuation fund or a non complying superannuation fund that last ceased to be a complying superannuation fund on or after 1 July 1995;

•

the fund is or has been a resident superannuation fund at any point of time during the current year of income up to the time the payment is made; and

•

in relation to previous years of income the fund has always been a resident superannuation fund or last ceased to be a non resident superannuation fund on or after 1 July 1995.

[Definition inserted by item 69]

How will lump sum payments from an eligible resident non complying superannuation fund be taxed in Australia?

7.192 As a consequence of the proposal to tax the trustee of a superannuation fund that changes from a complying fund to a non complying fund on the fund's net previous income in respect of previous years of income, the Bill will specifically exempt from tax in Australia certain lump sum payments made from eligible resident non complying superannuation funds. In addition, if the payment is exempt from tax in Australia, it is not taken into account in determining the tax payable on other taxable income.

7.193 The payment will be exempt if, at the time the payment is made, the fund is an eligible resident non complying superannuation fund and the payment would have been an ETP if:

•

the payment was not excluded because of new paragraph (ma) of the definition of ETP; and

•

the fund was a superannuation fund for the purposes of the ETP Subdivision.

[Item 71 - new section 27CE]

7.194 To ensure this payment is not assessable in Australia, the Bill will exclude it from the ETP definition and the definition of fringe benefit. [Item 70 and item 2 - new paragraph (ma) of the definition of ETP in subsection 27A(1) and new paragraph (kb) of the definition of fringe benefit in subsection 136(1) of the FBTAA]

7.195 The Bill will also exclude eligible resident non complying superannuation funds from the definition of superannuation fund in the ETP Subdivision. [Item 82]

7.196 As the payment will not be an ETP, it cannot be rolled over and will not be counted towards the recipient's reasonable benefit limit. In addition, the payment will not be subject to FBT.

7.197 A payment from an eligible resident non complying superannuation fund to a member of the fund will also be exempt from CGT (section 160ZZJ).

How will a pension or annuity from an eligible resident non complying superannuation fund be taxed?

7.198 A pension or annuity from an eligible resident non complying superannuation fund (that is not a qualifying security for the purposes of Division 16E), will be exempt from tax in Australia. [Item 88 - new subsection 27H(1A)]

What if the taxpayer has paid tax overseas on the amount paid from an eligible resident non complying superannuation fund?

7.199 Resident taxpayers are generally entitled to claim a credit for foreign tax paid on foreign income that is included in the taxpayer's assessable income. Consequently, a credit is not allowed for foreign tax paid on a payment from an eligible resident non complying superannuation fund if it is exempt under new subsections 27CE(1) or 27H(1A).

How will a payment from a superannuation fund that is not an eligible resident non complying superannuation fund or an eligible non resident non complying superannuation fund be taxed?

7.200 Generally, a payment from a superannuation fund (other than an exempt foreign termination payment, or a payment from either an eligible resident non complying superannuation fund or an eligible non resident non complying superannuation fund) will be taxed in Australia under the ETP Subdivision as either an ETP or an annuity.

7.201 To be taxed as an ETP, the fund must be a superannuation fund as defined in subsection 27A(1). To ensure payments from a non resident superannuation fund are taxed in the same way as payments from a resident superannuation fund, the Bill will amend the definition of superannuation fund to include a fund that is or has been a non resident superannuation fund in relation to any year of income. This will replace the existing reference to a foreign superannuation fund. [Item 82 - new subparagraph (a)(ia) of the definition of superannuation fund in subsection 27A(1)]

7.202 Rebates on pension and annuities will be restricted to payments from resident superannuation funds. [Item 83 - new paragraph (c) of the definition of taxed superannuation fund in subsection 27A(1)]

What if an ETP or an annuity has been taxed overseas?

7.203 Under ordinary concepts, ETPs are not usually regarded as income. To clarify that a credit is allowed for foreign tax paid on amounts that are taxed in Australia as ETPs, the Bill will amend the definition of foreign income in subsection 6AB(1) to specifically include ETPs. [Item 74]

Will taxpayers be able to roll over payments that qualify as ETPs out of Australia?

7.204 The Bill will allow taxpayers to roll over a qualifying ETP if:

•

it is paid by an employer, a resident superannuation fund or an ADF; and

•

the roll over fund is a resident of Australia or the annuity purchased from a life assurance company is an Australian policy.

7.205 Consequently, payments from a non resident superannuation fund will not be qualifying ETPs [item 84 - new subsection 27A(12BA)]. In addition, an amount can only be rolled over to a life assurance company to purchase an annuity that is an Australian policy. An Australian policy is a life assurance policy registered by the company liable under the policy in a register kept at a registry in a State or a Territory of Australia [item 93 - new subparagraph 27A(12)(c)(iii)].

7.206 The amendments to restrict complying status to resident funds will ensure payments are rolled over to a fund that is a resident of Australia.

What if a payment includes amounts that have been taxed under the FIF measures?

7.207 The Bill will extend the current exemption for amounts that are taxed under the FIF measures to include amounts that are assessed under the ETP Subdivision. As a consequence, the amount of a payment that is assessed under the ETP Subdivision will be reduced by the amount of the payment that is taxed under the FIF measures. [Items 96, 97 and 98]

Will the definition of resident Part IX entity in the FIF measures change?

7.208 The Bill will amend the definition of a resident Part IX entity in section 477 so that, for the purposes of the FIF measures, a trust will qualify as a resident Part IX entity at a particular time if, at that time, the trust is:

•

a resident superannuation fund; or

•

a complying ADF; or

•

a PST.

[Item 12 - new section 477]

Examples illustrating how the new measures will apply

Example 4

7.209 This example concerns a payment to George from an eligible non resident non complying superannuation fund (the Lee & Co Superannuation Fund). The payment was the amount accrued in the fund at the time of the payment. It shows the tax treatment of the payment where:

1.

George is and has always been a resident of Australia;

2.

George first became a permanent resident of Australia the day after he ceased employment with Lee & Co; and

3.

George first became a permanent resident of Australia while still working for Lee & Co.

7.210 An eligible non resident non complying superannuation fund is not a superannuation fund for the purposes of the ETP Subdivision. Therefore, the payment is not an ETP.

7.211 Consequently, it cannot be rolled over into a resident superannuation fund and will not be counted towards George's reasonable benefit limit. If the payment is paid into a resident superannuation fund by George, it will be treated as undeducted contributions and the eligible service period of any future payment from the resident fund will not include the service in the non resident fund.

7.212 The payment would have been an ETP if the payment was not excluded because of new paragraphs (ka) or (ma) of the ETP definition and the Lee & Co Superannuation Fund was a superannuation fund for the purposes of the ETP Subdivision. Therefore, depending on George's circumstances, the payment will qualify as either:

•

an exempt resident foreign termination payment; or

•

an exempt non resident foreign termination payment; or

•

an amount that is taxed under new section 27CAA.

General facts

7.213 George began working in the United States of America for Lee & Co on 27 November 1991. On that day he also became a member of the Lee & Co Superannuation Fund (an eligible non resident non complying superannuation fund).

7.214 On 19 January 1994 George ceased employment with Lee & Co. On that day, the amount he was entitled to receive from the Lee & Co Superannuation Fund was $2,500.

7.215 On 19 July 1995, George received $3,000 (before tax) from the Lee & Co Superannuation Fund. This was the amount accrued in the fund on that day. He paid tax of $300 on this amount in the United States of America.

7.216 The payment included:

•

contributions paid by George of $400;

•

contributions paid by Lee & Co of $1,600.

7.217 All contributions were paid to the fund when George was employed by Lee & Co.

7.218 His average rate of Australian tax payable for the 1995 96 year of income is 20%.

Scenario 1: George is and has always been a resident of Australia.

7.219 George worked overseas for the full period and arrived back in Australia on 20 January 1994 (the day after he ceased employment with Lee & Co). His earnings from Lee & Co were exempt from tax in Australia under section 23AG.

What amount is included in George's assessable income?

7.220 The payment from the superannuation fund will not be an exempt resident foreign termination payment because it was paid two and a half years after George ceased employment with Lee & Co. It will not be an exempt non resident foreign termination payment because George was a resident of Australia when he worked for Lee & Co. Rather, the payment will be taxed in Australia under new section 27CAA.

7.221 George's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is nil (because George was a resident on the day he joined the superannuation fund). His additional contributions are $2,000 (that is, the $400 contributions paid by George while he was a resident of Australia and the $1,600 contributions paid by Lee & Co while George was a resident of Australia).

7.222 Therefore, the following amount is included in George's assessable income and taxed at marginal rates of tax:

Gross amount - (Accumulated entitlement + Additional contributions) = $3,000 (0 + $2,000) = $1,000


Is George entitled to a foreign tax credit?

7.223 As some of the payment is included in George's assessable income under new section 27CAA, a credit will also be allowed for the foreign tax he paid. However, the amount of credit will be limited to the lesser of the following amounts:

(a)

the amount calculated using the following formula:

Actual foreign tax * (Assessable component/Gross amount of payment) =$300*($1,000/3,000)=$100;and


(b)

Assessable component * Average rate of Australian tax for 1995 96

=$1,000*20%=$200


7.224 Therefore, George will be allowed a foreign tax credit of $100. The excess credit of $200 (ie, $300 $100) for foreign tax paid by George on this payment can only be offset against Australian tax payable on future foreign income included under new section 27CAA. This excess may be carried forward for a maximum period of five years.

Scenario 2: George first became a permanent resident of Australia on 20 January 1994 (the day after he ceased employment with Lee & Co).

7.225 As George was not a resident of Australia when he worked for Lee & Co, his earnings from Lee & Co would have been exempt from tax in Australia under subsection 23(r).

What amount is included in George's assessable income?

7.226 The payment will not be an exempt resident foreign termination payment because George was not a resident of Australia when he worked for Lee & Co. It will not be an exempt non resident foreign termination payment because it was paid two and a half years after George became a resident of Australia. Rather, the payment will be taxed under new section 27CAA.

7.227 George's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is $2,500 (that is, the amount he was entitled to the day before he became a resident of Australia). His additional contributions are nil because all of the contributions were paid to the fund before he became a resident of Australia.

7.228 The amount that will be included in George's assessable income and taxed in Australia at marginal rates of tax is $500 (i.e., $3,000 ($2,500 + 0)).

Is George entitled to a foreign tax credit?

7.229 As some of the payment is included in George's assessable income under new section 27CAA, a credit will also be allowed for the foreign tax he paid. However, the amount of credit will be limited to the lesser of the following amounts:

•

$300*($500/$3,000)=$50;


and

•

$500*20%=$100


7.230 Therefore, George will be allowed a foreign tax credit of $50. The excess credit of $250 (i.e., $300 $50) for foreign tax paid by George on this payment can only be offset against Australian tax payable on future foreign income included under new section 27CAA. This excess may be carried forward for a maximum period of five years.

Scenario 3: George first became a permanent resident of Australia on 4 March 1992 while still working for Lee & Co.

7.231 During the period George was not a resident of Australia, his earnings from Lee & Co would have been exempt from tax in Australia under subsection 23(r). After he became a resident of Australia his earnings from Lee & Co would have been taxable in Australia. However, section 23AG may have applied depending on the facts of the case.

7.232 Other facts relevant to this scenario are:

•

contributions paid by George after he became a resident of Australia were $200;

•

contributions paid by Lee & Co after George became a resident of Australia were $800;

•

the amount George was entitled to on the day before he became a resident of Australia was $1,200.

What amount is included in George's assessable income?

7.233 The payment will not be an exempt resident foreign termination payment because George was not a resident of Australia for all of the period he worked for Lee & Co. It will not be an exempt non resident foreign termination payment because it was paid over 3 years after George became a resident of Australia. Rather, the payment will be taxed in Australia under new section 27CAA.

7.234 George's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is $1,200 (that is, the amount he was entitled to the day before he became a resident of Australia). His additional contributions are $1,000 (that is, the $200 contributions paid by George after he became a resident of Australia and the $800 contributions paid by Lee & Co after George became a resident of Australia).

7.235 Therefore, the amount included in George's assessable income and taxed in Australia at marginal rates of tax is $800 (i.e., $3,000 ($1,200 + $1,000)).

Is George entitled to a foreign tax credit?

7.236 As some of the payment is included in George's assessable income under new section 27CAA, a credit will also be allowed for the foreign tax he paid. However, the amount of credit will be limited to the lesser of the following amounts:

•

$300*($800/3,000)=$80;


and

•

$800*20%=$160


7.237 Therefore, George will be allowed a foreign tax credit of $80. The excess credit of $220 (ie, $300 $80) for foreign tax paid by George on this payment can only be offset against Australian tax payable on future foreign income included under new section 27CAA. This excess may be carried forward for a maximum period of five years.

Example 5

7.238 This example concerns an eligible non resident non complying superannuation fund (the Baker Pty Ltd Superannuation Fund) transferring an amount to a resident superannuation fund within 6 months of Jean terminating her employment with Baker Pty Ltd. The amount transferred was Jean's accrued entitlement. It shows the tax treatment of the transfer where:

(1)

Jean is and has always been a resident of Australia;

(2)

Jean first became a permanent resident of Australia the day after she ceased employment with Baker Pty Ltd; and

(3)

Jean first became a permanent resident of Australia while still working for Baker Pty Ltd.

7.239 The amount transferred to the resident superannuation fund is the amount Jean would be entitled to receive on the day the transfer took place. Consequently, Jean will be assessed on this amount in the same way as if she had received the payment.

7.240 The amount Jean would be entitled to receive on the day the transfer took place would have been an ETP if the payment was not excluded because of new paragraphs (ka) or (ma) of the ETP definition and the fund was a superannuation fund for the purposes of the ETP Subdivision. Therefore, depending on Jean's circumstances, Jean will be assessed on this amount under new sections 27CD or 27CAA in the same way as if she had received this amount and paid it into the resident fund. That is, this amount will be taxable in Australia as either:

•

an exempt resident foreign termination payment; or

•

an exempt non resident foreign termination payment; or

•

an amount that is taxed under new section 27CAA.

7.241 As a consequence, this amount will represent undeducted contributions in the hands of the trustee of the resident superannuation fund. The eligible service period of any future payment from the resident fund will not include the service in the non resident fund.

General facts

7.242 Jean began working in England for Baker Pty Ltd on 24 April 1990. On that day she also became a member of the Baker Pty Ltd Superannuation Fund (an eligible non resident non complying superannuation fund).

7.243 On 4 March 1995 Jean ceased employment with Baker Pty Ltd. On that day, the amount she was entitled to receive from the Baker Pty Ltd Superannuation Fund was $19,000.

7.244 On 3 August 1995, the Baker Pty Ltd Superannuation Fund transferred $20,000 to a resident superannuation fund for Jean's benefit. This was the amount Jean was entitled to receive from the fund on that day. Jean did not have to pay any tax in England on the amount transferred. Therefore she is not entitled to a foreign tax credit.

7.245 The payment included:

•

contributions paid by Jean of $5,000; and

•

contributions paid by Baker Pty Ltd of $10,000.

7.246 All contributions were paid to the fund when Jean was employed by Baker Pty Ltd.

Scenario 1: Jean is and has always been a resident of Australia.

7.247 Jean worked overseas for the full period and arrived back in Australia on 5 March 1995 (the day after she ceased employment with Baker Pty Ltd). Her earnings from Baker Pty Ltd were exempt from tax in Australia under section 23AG.

What amount is included in Jean's assessable income?

7.248 The amount transferred from the Baker Pty Ltd Superannuation Fund will not be an exempt resident foreign termination payment because it did not relate solely to the period of employment and Jean did not pay tax on this amount in England. It will not be an exempt non resident foreign termination payment because Jean was a resident of Australia when she worked for Baker Pty Ltd. Rather, the amount transferred will be taxed in Australia under new section 27CAA.

7.249 Jean's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is nil (because Jean was a resident on the day she joined the superannuation fund). Her additional contributions are $15,000 (that is, the $5,000 contributions paid by Jean after she became a resident of Australia and the $10,000 contributions paid by Lee & Co after Jean became a resident of Australia).

7.250 Therefore, the following amount is included in Jean's assessable income and taxed at marginal rates of tax:

Gross amount - (Accumulated entitlement + Additional contributions)
= $20,000 (0 + $15,000) = $5,000


Scenario 2: Jean first became a permanent resident of Australia on 5 March 1995 (the day after she ceased employment with Baker Pty Ltd).

7.251 As Jean was not a resident of Australia when she worked for Baker Pty Ltd, her earnings from Baker Pty Ltd would have been exempt from tax in Australia under subsection 23(r).

What amount is included in Jean's assessable income?

7.252 The amount transferred will be an exempt non resident foreign termination payment. Therefore, the whole amount will be exempt from tax.

Scenario 3: Jean first became a permanent resident of Australia on 13 April 1992 while working for Baker Pty Ltd.

7.253 During the period Jean was not a resident of Australia, her earnings from Baker Pty Ltd would have been exempt from tax in Australia under subsection 23(r). After she became a resident of Australia her earnings from Baker Pty Ltd would have been taxable in Australia. However, section 23AG may have applied depending on the facts of the case.

7.254 Other facts relevant to this scenario are:

•

contributions paid by Jean after she became a resident of Australia were $2,000;

•

contributions paid by Baker Pty Ltd after Jean became a resident of Australia were $5,000;

•

the amount Jean was entitled to receive from the fund on the day before she became a resident of Australia was $11,000.

What amount is included in Jean's assessable income?

7.255 The amount transferred from the Baker Pty Ltd Superannuation Fund will not be taxed as an exempt resident foreign termination payment because Jean was not a resident of Australia for all of the period she worked for Baker Pty Ltd. It will not be an exempt non resident foreign termination payment because Jean was a resident of Australia for more than 6 months. Rather, the amount transferred will be taxed in Australia under new section 27CAA.

7.256 Jean's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is $11,000 (that is, the amount she was entitled to receive the day before she became a resident of Australia). Her additional contributions are $7,000 (that is, the $2,000 contributions paid by Jean after she became a resident of Australia and the $5,000 contributions paid by Baker Pty Ltd after Jean became a resident of Australia).

7.257 Therefore, the amount included in Jean's assessable income and taxed in Australia at marginal rates of tax is $2,000 (i.e., $20,000 ($11,000 + $7,000)).

Example 6

7.258 This example concerns an eligible non resident non complying superannuation fund (the Thompson Ltd Superannuation Fund) transferring an amount to a resident superannuation fund within 6 months of Jose terminating her employment with Thompson Ltd. The amount transferred exceeded Jose's accrued entitlement at the time of the transfer. It shows the tax treatment of the transfer where:

(1)

Jose is and has always been a resident of Australia;

(2)

Jose first became a permanent resident of Australia the day after she ceased employment with Thompson Ltd; and

(3)

Jose first became a permanent resident of Australia while still working for Thompson Ltd.

7.259 The tax treatment of the amount transferred from the eligible non resident non complying superannuation fund will also depend on the amount transferred.

7.260 The amount Jose would be entitled to receive on the day the transfer took place would have been an ETP if the payment was not excluded because of new paragraphs (ka) or (ma) of the ETP definition and the fund was a superannuation fund for the purposes of the ETP Subdivision. Therefore, depending on Jose's circumstances, Jose will be assessed on this amount under new sections 27CD or 27CAA in the same way as if she had received this amount and paid it into the resident fund. That is, this amount will be taxable in Australia as either:

•

an exempt resident foreign termination payment; or

•

an exempt non resident foreign termination payment; or

•

an amount that is taxed under new section 27CAA.

7.261 As a consequence, this amount will be undeducted contributions in the hands of the trustee of the resident superannuation fund. In addition, the eligible service period of any future payment from the resident fund will not include the service in the non resident fund.

7.262 The amount Jose is not entitled to receive on the day the transfer took place will be included in the assessable income of the resident superannuation fund as a taxable contribution.

General facts

7.263 Jose began working in Canada for Thompson Ltd on 15 October 1992. On that day she also became a member of the Thompson Ltd Superannuation Fund (an eligible non resident non complying superannuation fund).

7.264 On 25 February 1995 Jose ceased employment with Thompson Ltd. On that day, the amount she was entitled to receive from the Thompson Ltd Superannuation Fund was $6,500.

7.265 On 20 July 1995, the Thompson Ltd Superannuation Fund transferred $10,000 to a resident superannuation fund. Jose's accrued entitlement at the time of the transfer was only $7,000.

7.266 Jose did not have to pay any tax in Canada on the amount transferred therefore she is not entitled to a foreign tax credit.

7.267 The payment included:

•

contributions paid by Jose of $2,000;

•

contributions paid by Thompson Ltd of $3,000.

7.268 All contributions were paid to the fund when Jose was employed by Thompson Ltd.

Scenario 1: Jose is and has always been a resident of Australia.

7.269 Jose worked overseas for the full period and arrived back in Australia on 26 February 1995 (the day after she ceased employment with Thompson Ltd). Her earnings from Thompson Ltd were exempt from tax in Australia under section 23AG.

What amount is included in Jose's assessable income?

7.270 The amount that Jose would be entitled to receive on the day the transfer took place will not be taxed as an exempt resident foreign termination payment because it did not relate solely to the period of employment and Jose did not pay tax on this amount in Canada. It will not be an exempt non resident foreign termination payment because Jose was a resident of Australia when she worked for Thompson Ltd. Rather, Jose will be taxed on this amount under new section 27CAA.

7.271 Jose's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is nil (because Jose was a resident on the day she joined the superannuation fund). Her gross amount is $7,000 (that is, the amount that is properly payable from the fund on the day of the transfer). Her additional contributions are $5,000 (that is, the $2,000 contributions paid by Jose while she was a resident of Australia and the $3,000 contributions paid by Thompson Ltd while Jose was a resident of Australia).

7.272 Therefore, the following amount is included in Jose's assessable income and taxed at marginal rates of tax:

Gross amount - (Accumulated entitlement + Additional contributions)
= $7,000 - (0 + $5,000) = $2,000


What amount is included in the assessable income of the resident superannuation fund?

7.273 The amount transferred exceeded Jose's accrued entitlement at the time of the transfer by $3,000. Therefore, this amount is included in the assessable income of the resident superannuation fund as taxable contributions.

Scenario 2: Jose first became a permanent resident of Australia on 26 February 1995 (the day after she ceased employment with Thompson Ltd).

7.274 As Jose was not a resident of Australia when she worked for Thompson Ltd, her earnings from Thompson Ltd would have been exempt from tax in Australia under subsection 23(r).

What amount is included in Jose's assessable income?

7.275 The amount that Jose would be entitled to receive on the day the transfer took place will not be taxed as an exempt resident foreign termination payment because Jose was not a resident of Australia when she worked for Lee & Co. It will not be an exempt non resident foreign termination payment because the amount transferred exceeded the amount that Jose was entitled to receive from Thompson Ltd Superannuation Fund on 20 July 1995. Rather, Jose will be taxed on this amount under new section 27CAA.

7.276 Jose's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is $6,500 (that is, the amount she was entitled to the day before she became a resident of Australia). Her additional contributions are nil because all of the contributions were paid to the fund before she became a resident of Australia. Her gross amount is $7,000 (that is, the amount that is properly payable from the fund on the day of the transfer).

7.277 The amount that will be included in Jose's assessable income and taxed in Australia at marginal rates of tax is $500 (i.e., $7,000 ($6,500 + 0)).

What amount is included in the assessable income of the resident superannuation fund?

7.278 The amount transferred exceeded Jose's accrued entitlement at the time of the transfer by $3,000. Therefore, this amount is included in the assessable income of the resident superannuation fund as a taxable contribution.

Scenario 3: Jose first became a permanent resident of Australia on 13 September 1993 while working for Thompson Ltd.

7.279 During the period Jose was not a resident of Australia, her earnings from Thompson Ltd would have been exempt from tax in Australia under subsection 23(r). After she became a resident of Australia her earnings from Thompson Ltd would have been taxable in Australia. However, section 23AG may have applied depending on the facts of the case.

7.280 Other facts relevant to this scenario are:

•

contributions paid by Jose after she became a resident of Australia were $2,000;

•

contributions paid by Thompson Ltd after Jose became a resident of Australia were $1,500;

•

the amount Jose was entitled to on the day before she became a resident of Australia was $2,500.

What amount is included in Jose's assessable income?

7.281 The amount that Jose would be entitled to receive on the day the transfer took place will not be taxed as an exempt resident foreign termination payment because Jose was not a resident of Australia for all of the period she worked for Thompson Ltd. It will not be an exempt non resident foreign termination payment because Jose was a resident of Australia for more than 6 months. Rather, Jose will be taxed on this amount under new section 27CAA.

7.282 Jose's accumulated entitlement for the purposes of the formula in new subsection 27CAA(1) is $2,500 (that is, the amount she was entitled to receive the day before she became a resident of Australia). Her additional contributions are $3,500 (that is, the $2,000 contributions paid by Jose after she became a resident of Australia and the $1,500 contributions paid by Thompson Ltd after Jose became a resident of Australia). Her gross amount is $7,000 (that is, the amount that is properly payable from the fund on the day of the transfer).

7.283 Therefore, the amount included in Jose's assessable income and taxed in Australia at marginal rates of tax is $1,000 (i.e., $7,000 - ($2,500 + $3,500)).

What amount is included in the assessable income of the resident superannuation fund?

7.284 The amount transferred exceeded Jose's accrued entitlement at the time of the transfer by $3,000. Therefore, this amount is included in the assessable income of the resident superannuation fund as a taxable contribution.

Research and Development Activitites

Overview

8.1 The Bill proposes amendments to the Income Tax Assessment Act 1936 (ITAA) and the Industry, Research and Development Act 1986 (IR&D Act) to achieve three outcomes to give effect to the changes announced in the Working Nation White Paper of 4 May 1994. These are to:

(a)

amend the ITAA to allow the highest available rate of deduction for research and development (R&D) expenditure once the $20,000 threshold (where it applies) is exceeded, in place of the present shading-in of the top rate as the 'aggregate research and development amount' for the year approaches $50,000;

(b)

allow certain expenditure incurred on R&D activities undertaken outside Australia to be eligible for the concession by:

(i)

amending the ITAA to allow a deduction for expenditure incurred on R&D activities conducted outside Australia that have been given prior approval by the Industry Research and Development Board (the Board); and

(ii)

amending the IR&D Act to give the Board the power to approve proposed overseas R&D activities of companies that meet certain eligibility criteria; and

(c)

reduce the expenditure threshold in the IR&D Act from $1,000,000 to $500,000 for companies registering jointly.

Summary of the amendments

Purpose of the amendments

(a) Elimination of shading-in rules

8.2 The purpose of the amendments is to allow companies whose qualifying R&D expenditure exceeds $20,000 to obtain the full benefit of the 150 per cent concession. The present rules for calculating the 'aggregate research and development amount' will continue to apply. [Items 14 and 15 of Schedule 4; amended subsections 73B(14) and 15(a)]

8.3 The broader purpose is that qualifying companies should all get deductions at the same rate for the same kind of expenditure in the same circumstances provided their aggregate expenditure for the year is enough to qualify under the law. This will remove the disadvantage to those companies with lower, but qualifying, levels of R&D expenditure.

(b) Expenditure on overseas R&D activities

At present, R&D expenditure is only deductible under the R&D concession if it is incurred in respect of R&D activities carried on in Australia or an external Territory. The purpose of the amendments is to allow some R&D expenditure incurred in respect of R&D activities carried on overseas to be deductible under the R&D concession.

R&D expenditure will be deductible when it is incurred in respect of overseas R&D activities that have been certified by the Industry Research and Development Board. The Board is required to establish guidelines for certifying overseas R&D activities, which will expand on the statutory minimum requirements.

The broader purpose of the amendments is that companies should not be precluded from pursuing R&D projects which require some overseas R&D activities, provided that R&D activities will be carried out in Australia as far as possible, and overseas R&D activities represent no more than a limited part of an overall project of R&D. [Item 16 of Schedule 4; new subsection 73B(17A)]

Reduced expenditure threshold for syndicates

8.7 Joint registration, so that individual expenditure on a joint project of R&D activities will qualify for the R&D concession, is the way for companies to pool their resources for a common project. Among other tests, joint registration requires expenditure on the joint project of at least $1 million. The purpose of these amendments is to reduce the threshold to $500,000.

8.8 The broader purpose is to encourage companies to consider the possibility of joint registration of R&D activities on a smaller scale than the existing rules would allow. This would particularly cater for joint registration of R&D activities of interest to a small number of participants or to participants with a narrower range of commercial interests. The reduced threshold for joint registration is meant to facilitate the use of syndicate structures by small-to-medium-sized companies, by allowing joint registration for the smaller R&D projects in which they are interested. This is not likely to advantage the larger syndicates, which are commonly based on large projects of wide commercial interest. [Item 6 of Schedule 4; amended paragraph 39P(3)(c)]

Date of effect

8.9 (a) The elimination of shading-in rules will apply to deductions claimed for the 1994-95 or later years of income in respect of expenditure related to R&D activities. [Item 22 of Schedule 4]

8.10 (b) The deduction for expenditure incurred on approved overseas R&D activities will be available for expenditure incurred after the Bill receives Royal Assent. [Item 22 of Schedule 4]

8.11 (c) The reduced expenditure threshold for syndicates will apply to syndicate registrations on or after 1 July 1994 in respect of any proposed project starting on or after that date and including R&D activities. [Item 8 of Schedule 4]

Background to the legislation

(a) Elimination of shading-in rules

The R&D concession is available to an eligible company for expenditure incurred, on or after 1 July 1985, on qualifying R&D in Australia. The concession allows a deduction for expenditure on qualifying R&D activities at rates varying from 100 per cent to 150 per cent.

Because R&D is generally of a capital nature, expenditure on it is generally not deductible under the general deduction provision of the income tax law, section 51 of the ITAA.

Qualifying R&D must be carried out on behalf of the eligible company, and on behalf of no-one else, unless the syndicate rules apply.

An eligible company may be entitled to a deduction at a rate greater than 100 per cent where 'aggregate R&D expenditure' for the year is greater than $20,000 (subsection 73B(14)). Where the R&D expenditure is between $20,000 and $50,000, the rate at which the deduction may be allowable increases proportionately from 100 per cent to 150 per cent. R&D expenditure of $50,000 or more may qualify for deduction at 150 per cent. The factor by which qualifying expenditure on R&D activities is multiplied to determine the amount of the deduction allowable is the 'deduction acceleration factor' (subsection 73B(1)). Some kinds of expenditure are never allowable at a higher rate of deductibility than 100 per cent. The usual maximum rate of deductibility is further reduced if the company's expenditure is not at risk.

Expenditure on overseas R&D activities

It is only expenditure on R&D activities carried out in Australia or an external Territory that qualifies for the concession.

Reduced expenditure threshold for syndicates

Syndicates of two or more companies that are formed to finance expenditure on R&D activities of $1 million or more can qualify for deductions under section 73B. The $1 million threshold was designed to encourage a minimum level of R&D investment that was thought to be consistent with an innovative company or project, and also to save on the disproportionate administrative overheads in processing low-value applications.

Explanation of the amendments

Amendments to the Income Tax Assessment Act 1936

(a) Elimination of shading-in rules

8.18 As the 'aggregate research and development amount' for an eligible company for a year of income increases from $20,001 to $50,000, the highest possible rate of deduction available to the company for some kinds of expenditure rises from 100 per cent to 150 per cent. In other words, the top rate of deduction shades in as the aggregate rises from $20,001 to $50,000. There is no expenditure threshold for expenditure contracted to an eligible research agency, and all the contracted expenditure qualifies for deduction at the rate of 150 per cent (subsection 73B(13)). 'At risk' rules may reduce the actual rate of deduction from 150 per cent, and some kinds of expenditure are allowable only at 100 per cent, or are allowable at the highest possible rate regardless of the aggregate.

8.19 Core technology expenditure is only deductible at 100 per cent, as is the limited building expenditure deductible over three years under the concession; contracted expenditure - that is, payments to certain approved research bodies to have them carry out R&D on behalf of the company - is deductible at the highest possible rate, regardless of the aggregate. Other R&D expenditure, including R&D plant expenditure that is deductible over three years, is deductible at a rate which reflects the aggregate.

8.20 The 'aggregate research and development amount' is defined in the law (definition, subsection 73B(1)). In essence, it includes actual expenditures that relate to qualifying R&D activities, to the extent that they are taken into account or taken to be incurred in calculating deductions for the particular year. So the aggregate includes core technology expenditure, contracted expenditure, the one-third of total qualifying plant expenditure and building expenditure by reference to which a year's deductions are calculated, the amount of any deductions under Division 10D writing off the capital cost of a building or part of a building used for the purpose of carrying on R&D activities, and the whole of other qualifying R&D expenditure for the year.

8.21 Core technology is knowledge, or the product of applying knowledge, that is extended, continued, developed or completed as a result of R&D activities. It is core technology in relation to those R&D activities. (Subsection 73B(1AB); definitions, 'core technology', 'technology', subsection 73B(1))

8.22 Other provisions also affect the calculation of the 'aggregate research and development amount'. Pilot plant expenditure is reduced to a maximum of $10 million where construction of the plant began, or a contract for its acquisition or construction was entered into, before 19 August 1992 (subsection 73B(6)).

8.23 Advance R&D expenditure - in effect, certain prepayments covering a longer period than 13 months from the day the expenditure is incurred - will be taken to be incurred equally over the period to which it relates (subsection 73B(11), and definitions of 'advance R&D expenditure' and 'accelerated expenditure' in subsection 73B(1)).

8.24 Contracted expenditure is included in the 'aggregate research and development amount', but it is not affected by it, because contracted expenditure is deductible regardless of the aggregate amount (subsection 73B(13)).

8.25 The effect of the proposed amendments relating to overseas R&D activities should be noted. R&D expenditure related to overseas R&D activities will count towards the aggregate only to the extent to which the expenditure is deductible in that year. This is consistent with the other aspects of the definition of the 'aggregate research and development amount', which includes R&D expenditure only as and to the extent to which it is deductible as such.

8.26 Any excess deduction over 100 per cent proportionately reduces as the expenditure to which the deduction relates is not at risk (section 73CA). Core technology expenditure is expenditure on getting core technology or the right to use core technology; for purposes of R&D activities. That expenditure is only deductible at 100 per cent (subsection 73B(12)).

8.27 Under the proposed amendments qualifying R&D expenditure over $20,000 for the 1994-95 and later years of income may be deductible at the highest possible rate of 150 per cent. The 'deduction acceleration factor' will be omitted from the definitions in subsection 73B(1) because it will not be used to determine the amount of the deduction allowable. [Item 11 of Schedule 4; definition of 'deduction acceleration factor' in subsection 73B(1)]

8.28 Instead, the Bill will amend subsection (14) and (15)(a) by omitting 'the deduction acceleration factor in relation to the company in relation to the year of income' and substituting '1.5'. The amendment will allow qualifying R&D expenditure, incurred in the 1994-95 and later years of income, to be multiplied by 1.5, where the 'aggregate research and development amount' is more than $20,000, to determine the amount of the allowable deduction.

8.29 This expenditure will continue to be subject to the risk provisions of section 73CA, and the risk rules precluding deductions for expenditure to government bodies if the expenditure is not at risk (section 73CB). [Item 14 and 15 of Schedule 4; amended subsections 73B(14) and (15)(a)]

Other amendments

8.30 Certain other provisions will be amended as a consequence of the elimination of the shading-in provisions and the removal of the definition of 'deduction acceleration factor' from the definitions in subsection 73B(1). Changes will be made to replace the reference to 'deduction acceleration factor' with '1.5', which will be the rate that certain expenditure will be multiplied by to determine the deductible amount.

8.31 Subsection 73C(9) specifies that where clawback applies to expenditure, a deduction acceleration factor does not apply and the rate of deduction is limited to 100 per cent of that expenditure. This will be amended to retain the same meaning as the existing provision. Because of the elimination of the shading-in provisions and the removal of the 'deduction acceleration factor' from the definitions in subsection 73B(1) the provision will state that if clawback applies to expenditure, subsection 73B(14) and paragraph 73B(15)(a) have effect as if 'multiplied by 1.5' were omitted from that subsection and paragraph. [Item 20 of Schedule 4; amended subsection 73C(9)]

8.32 Subsections 73B(23) and (24) contain provisions which take effect on the disposal, loss or destruction of plant or pilot plant that has been used exclusively for R&D activities and in respect of which a deduction under section 73B applied. Where the written down value exceeds the consideration received on the disposal, loss or destruction of plant or pilot plant a company may be allowed a deduction of the excess amount. The deduction allowable is the amount of the excess, increased by the deduction acceleration factor, where the 'aggregate research and development amount' for the year of income exceeds $20,000.

8.33 Subparagraph 73B(23)(e)(i) and paragraph 73B(24)(e) will be amended to remove 'the deduction acceleration factor in relation to the company in relation to the year of income' and substituting it with '1.5'. This amendment will not change the effect of these provisions. [Items 17 and 18 of Schedule 4; amended subparagraph 73B(23)(e)(i) and paragraph 73B(24)(e)]

(b) Expenditure on overseas R&D activities

8.34 Under the existing law, deductions are allowable for specified expenditure in relation to R&D activities. R&D activities must be carried on in Australia or in an external Territory (the definition of 'research and development activities', subsection 73B(1)). The proposed amendments will allow some expenditure in relation to certain R&D activities carried on outside Australia and an external Territory to qualify for the concession. [Item 13 of Schedule 4; substituted definition of 'research and development activities', subsection 73B(1) and Item 16 of Schedule 4; new subsection 73B(17A)]

8.35 The concession will only be available for expenditure on overseas activities that have been approved by the Board before the expenditure is incurred. A provisional certificate (see later notes), given to a company under the proposed section 39EE of the IR&D Act, will specify the overseas activities (and the amount of expected expenditure on those activities) that have been approved by the Board. [Item 12 of Schedule 4; definition of 'certified expenditure' in subsection 73B(1) and item 3 of Schedule 4; new sections 39ED and 39EE of the IR&D Act]

Deductible expenditure on overseas R&D activities

8.36 Expenditure on the overseas R&D activities that can qualify for deduction under section 73B will be:

•

core technology expenditure (subsection 73B(12));

•

plant expenditure (subsection 73B(15));

•

building expenditure (subsection 73B(17));

•

contracted expenditure on the approved overseas R&D activities (subsection 73B(13));

•

salary expenditure on those activities (subsection 73B(14)); and

•

other expenditure carried out by or on behalf of the company in relation to those activities (subsection (73B(14)).

8.37 This means that the same sort of expenditure that is deductible in relation to Australian R&D activities can be deductible in relation to overseas R&D activities. However, new subsection 73B(17A) will limit the deduction for expenditure on overseas R&D activities to expenditure that is 'certified expenditure'. [Item 16 of Schedule 4; new subsection 73B(17A)]

8.38 Generally such expenditure can be deducted only under section 73B; in any case where it may also be deducted under another provision, section 82 prevents double deductions.

Certified expenditure

8.39 In order to be eligible for a deduction, proposed expenditure on overseas R&D activities must qualify as 'certified expenditure' (subsection 73B(17A). 'Certified expenditure' will be a new definition in subsection 73B(1). 'Certified expenditure' is expenditure an eligible company incurs on overseas R&D activities where:

•

the company is the holder of a provisional certificate issued by the Board in relation to those overseas activities; and

•

the expenditure is incurred by the company after the provisional certificate is issued.

[Item 12 of Schedule 4; definition of 'certified expenditure' in subsection 73B(1)]

8.40 Provisional certificates issued by the Board may identify particular activities by reference to particular expenditures, or particular total expenditures. In such cases, the R&D activities are certified only to that extent; expenditures other than those identified, or exceeding the total given, would not be certified expenditure. Such other expenditures would not be incurred in respect of activities in respect of which the Board gave a provisional certificate before the expenditure was incurred.

8.41 A company's review rights in respect of the Board's refusal, or deemed refusal, to issue a provisional certificate for certain R&D activities are against the Board rather than the Commissioner. This reflects the need for the decision and review of the decision to be based on expert knowledge in relation to R&D activities.

R&D activities

8.42 The present definition of 'research and development activities' will be amended to exclude the requirement that the activities must be carried on in Australia or in an external Territory. The subsections that now allow a deduction for certain types of expenditure on 'research and development activities' will be given a wider application without any need to amend the subsections themselves because the present definition of 'research and development activities' will include both Australian and overseas R&D activities. [Item 13 of Schedule 4; amended definition of 'research and development activities' in section 73B(1)]

8.43 Subsections (12), (13), (14), (15) and (17) will therefore also allow a deduction for expenditure incurred on overseas R&D activities. Those deductions will be limited to deductions in respect of certified expenditure where the activities were overseas R&D activities. [Item 16 of Schedule 4; new subsection 73B(17A)]

8.44 A new definition will be provided for R&D activities carried on in Australia or in an external Territory. These activities will be defined as 'Australian R&D activities'. The term will have the same meaning as the existing definition of 'research and development activities' and will be used in various sections of the IR&D Act. Other than as a definition in subsection 73B(1) the term does not need to be been used in the ITAA. [Item 12 of Schedule 4; new definition of 'Australian R&D activities' in section 73B(1)]

8.45 A new definition will be provided for R&D activities carried on outside Australia or an external Territory in subsection 73B(1). These activities will be defined as 'overseas research and development activities'. This term will be used in the definition of 'certified expenditure' and in new subsection 73B(17A) to restrict a deduction for expenditure on overseas R&D activities to expenditure that is 'certified expenditure'. [Item 12 of Schedule 4; new definition of 'overseas research and development activities' in section 73B(1)]

Aggregate R&D amount

8.46 Aggregate R&D amount is defined in subsection 73B(1) of the ITAA. It specifies the expenditure items that are included in the calculation of 'aggregate research and development amount'. The amount of deduction allowable under subsection 73B(14) and (15) is dependent on the 'aggregate research and development amount'. Where the 'aggregate research and development amount' exceeds $20,000 the rate of deduction will be 150 per cent of the expenditure amount. (Refer to paragraphs 8.18 to 8.25 for a more detailed explanation on the 'aggregate research and development amount').

8.47 Expenditure on overseas R&D activities will be included in the 'aggregate research and development amount' only to the extent that it is certified expenditure. This means that only the amount of expenditure that qualifies as a deduction under section 73B will be included in the calculation of 'aggregate research and development amount'. This is consistent with the other aspects of the definition of the 'aggregate research and development amount', which includes R&D expenditure only to the extent to which it is deductible in the relevant year. [Item 10 of Schedule 4; amended definition of 'aggregate research and development amount' in subsection 73B(1)]

Board to decide whether actual overseas activities are those described in provisional certificate

8.48 A provisional certificate will only be issued by the Board for particular eligible 'overseas research and development activities' (as defined in section 73B). However there may be a dispute between the company and the Commissioner as to whether particular activities conducted by the company are the activities described in a particular provisional certificate. In such circumstances the Commissioner will be able to ask the Board, under new subsection 39LAA(1), to settle the matter under dispute. [Item 5 of Schedule 4; new subsection 39LAA(1) of the IR&D Act]

8.49 The Board's decision will be provided in a certificate given to the Commissioner, with a copy to the company, that states whether the overseas R&D activities that have been or are being carried on by or on behalf of an eligible company were or are the activities that are described in a particular provisional certificate. [Item 5 of Schedule 4; new subsection 39LAA(1) of the IR&D Act]

8.50 If the Board decides that the particular activities were not described in a provisional certificate given to the company, the Board must provide the company with a statement of the reasons for that decision. [Item 5 of Schedule 4; new subsection 39LAA(2) of the IR&D Act]

8.51 A company's review rights in respect of such a certificate are against the Board rather than the Commissioner. This reflects the Commissioner's administrative role; the Commissioner is not expert in deciding what activities are R&D activities and whether they are the particular activities approved by the Board, and so would rely on the Board in cases of dispute. [Subitem 7(b) of Schedule 4; insertion of reference to section 39LAA in section 39S of the IR&D Act]

Effect of a certificate issued to the Commissioner by the Board

8.52 The purpose of the certificate will be to inform the Commissioner whether the overseas R&D activities for which the company is seeking a deduction against assessable income were the activities approved in the provisional certificate.

8.53 The certificate issued by the Board is binding on the Commissioner for the purpose of making an assessment of the company's taxable income for any relevant year of income. That year of income need not be the year in which the R&D activities themselves were carried out; the related expenditure may have been incurred in a different year. That year of income need not be the year in which the related expenditure was incurred; it may have been plant expenditure, or expenditure for which deductions are allowable under Division 10D of the ITAA. [Item 19 of Schedule 4; new subsection 73B(34A)]

8.54 The information on the R&D activities provided to the Commissioner by the Board, together with expenditure details provided by the taxpayer, will enable the Commissioner to determine the deductible amount for expenditure incurred on overseas R&D activities on a particular project.

Amendment to definition of 'research and development activities' in subsection 124ZF(1)

8.55 Section 124ZF is an interpretative provision containing definitions of various expressions used in Division 10D of Part III of the ITAA. The Division provides a special system of tax deductions for capital expenditure incurred on the construction, extension, alteration or improvement of buildings in Australia - in effect the original cost of building work - which are used for the purpose of producing assessable income; or which are used for the purposes of carrying on R&D activities where the activities are carried on Australia or elsewhere in connection with a business conducted for the purpose of producing assessable income.

8.56 The present definition of 'research and development activities' in subsection 124ZF(1) obtains its meaning in part from the definition in section 73B. However, the definition in subsection 124ZF(1) extends the section 73B definition of 'research and development activities' to include activities that are carried on overseas.

8.57 The proposed amendment to the definition of 'research and development activities' in section 73B will exclude the requirement that the activities must be carried on in Australia or in an external Territory. The definition of 'research and development activities' 124ZF(1) will therefore be amended to take into account the new meaning that 'research and development activities' will have under section 73B. The new definition of 'research and development activities' in subsection 124ZF(1) will have the same meaning as the existing definition in that subsection. Division 10D will continue to apply even though the building (or part of a building) is used for R&D on behalf of a taxpayer other than an eligible company. [Item 21 of Schedule 4; substituted paragraph 124ZF(1)(a)(ii)]

Amendments to the Industry Research and Development Act 1986

(b) Expenditure on overseas R&D activities

8.58 Several features of the proposed changes require amendments to the Industry Research and Development Act 1986. The changes in relation to overseas R&D activities will give the Board the power to give provisional certificates in relation to overseas R&D activities, and the responsibility for making the rules by which requests for those certificates will be decided. The Board will also be made responsible for giving the ATO binding certificates in relation to a company's overseas R&D activities, on request from the ATO.

Criteria for overseas R&D activities

8.59 The proposed amendments will give the Board the power to set criteria to be met by a company seeking a provisional certificate in relation to proposed overseas R&D activities. [Item 3 of Schedule 4; new subsection 39EB(1)]

8.60 By allowing the Board to formulate criteria, the Board will be able to respond quickly to changing market circumstances instead of the delay and additional cost to Government that would be involved if the criteria required legislative amendments. This will give the Board greater flexibility to grant provisional certificates than if all the criteria were contained in the legislation. The proposed operational structure is also considered necessary in order to cater for the possible complex and diverse circumstances that may lead a company to undertake R&D activities outside Australia.

8.61 The criteria set by the Board will be limited in two ways. First, they must include some key requirements set out in legislation. Second, they will be made in the form of written guidelines which will be subject to disallowance by either chamber of Parliament; this ensures Parliamentary supervision of all requirements not directly included in legislation. [Item 3 of Schedule 4; new subsections 39EB(3) and (4)]

8.62 The criteria set by the Board will be public and readily available. They will be published in the Gazette; they must be made available free to any Australian company that asks for them; and the first version of those criteria must be made as soon as possible after these legislative changes commence, and no later than ninety days from that date. [Item 3 of Schedule 4; new subsections 39EB(1) and (2)]

Legislative criteria

8.63 The three mandatory elements of any criteria set out by the Board are as follows.

8.64 First, the company must show the Board that the proposed overseas R&D activities cannot be carried out in Australia (or its external territories). This is not meant to preclude overseas R&D activities altogether, and so does not require that activities be done here regardless of available resources or cost. However, the fact that facilities for a particular activity are presently unavailable here will not be sufficient to show that the activity cannot be carried out here - it may be reasonable for appropriate facilities or expertise to be created here. Considerations of relative cost, timing, and available resources may be relevant to this criterion. [Item 3 of Schedule 4; new paragraph 39EB(3)(a)]

8.65 Second, the company must show the Board that the results of the overseas R&D activities will be exploited for the benefit of the Australian economy and by the company concerned. This requires exploitation to be on terms at least as favourable to the company concerned as an arm's length arrangement entered into purely for commercial reasons, and without related purposes. [Item 3 of Schedule 4; new paragraph 39EB(3)(b)]

8.66 Third, the company must show the Board that the proposed expenditure on overseas R&D activities for which the company proposes to claim a deduction under section 73B of the ITAA, will not exceed 10 per cent of the total expenditure that the company proposes to incur on the project of R&D activities.

8.67 A project might be well advanced before there is any need to carry on overseas R&D activities. Where a project is in progress, this criterion will allow a company to apply for approval for proposed overseas R&D activities calculated on the basis that the proposed activities will not exceed 10 per cent of the total expenditure already incurred or proposed for the project. [Item 3 of Schedule 4; new paragraph 39EB(3)(c)]

Possible additional criteria

8.68 Additional criteria may be contained in the guidelines that a company will need to satisfy to be given a provisional certificate. Some further criteria that will be considered by the Board include the following:

•

The company must be able to demonstrate that the proposed R&D activities cannot be undertaken in Australia by showing that:

(i)

the scientific and technological resources required to undertake the work do not exist in Australia; and

(ii)

the cost of establishing the required facilities, trained personnel and research data bases in Australia is prohibitive both in terms of time and money;

(iii)

The results of the R&D undertaken overseas will form part of a larger R&D project which will include R&D to be undertaken in Australia;

•

The R&D that is to be undertaken overseas shall take the form of an arm's length arrangement with a party or parties that are neither related to nor associated with the Australian company;

•

The results of overseas R&D activities must be exploited by the company for the benefit of the Australian economy and the company must be able to demonstrate that:

(i)

manufacture and production use of the R&D results will occur in Australia. This will not preclude subsequent manufacturing operations from being established overseas;

(ii)

commercialisation of the R&D results will in general be undertaken from Australia. However the Board may consider arrangements that involve the use of international marketing agreements with appropriate payments at arm's length rates to the Australian company to strategically position new products on world markets; and

(iii)

there will be no restrictions placed on the new technology that may limit its exploitation or use by the Australian company in relation to international markets.

•

The results of the R&D that is undertaken overseas must be transferred to Australia and must remain the property of the Australian company. Where the overseas organisation is a research institution such as the equivalent of CSIRO or a university, then some discretion will be applied in relation to the issue of publication rights;

•

A company must notify the Board of any changes to the planned R&D activities forming part of the project for which a certificate has been sought, or to the budgeted costs of the project. This requirement would continue while an application for a certificate is pending, and once a certificate is granted. (Companies refused a certificate have no continuing obligation; companies seeking a change to a certificate will in any case have to provide such information.) Before an application is dealt with, this information will be required because otherwise the application could be considered on the basis of information which has become misleading. After an application has been granted, there may be developments or changes of plan which do not require amendment of the provisional certificate, but which affect the basis on which the certificate was granted. The Board should be able to require that companies inform it of such changes. This will enable it to check whether its other requirements are sufficient to ensure appropriate decision making, for example.

Application for a provisional certificate

8.69 An eligible company will be allowed a deduction for certified expenditure under section 73B of the ITAA. Certified expenditure is expenditure incurred on overseas R&D activities after a provisional certificate relating to those activities has been given to the company. A company may apply to the Board for a provisional certificate in relation to proposed overseas R&D activities. The application will need to:

•

be in writing;

•

describe the project to which the proposed overseas activities relate;

•

describe the proposed overseas activities;

•

state the respective amounts of expenditure proposed to be incurred by the company on the project that relate to:

(i)

Australian R&D activities; and

(ii)

overseas R&D activities; and

(ii)

if the company proposes to claim a deduction under section 73B of the ITAA, for part only of the expenditure incurred on overseas R&D activities, the amount of that part of the expenditure.

•

be accompanied by any other information that the Board reasonably requires. The other information that the Board may require could include information relevant to the criteria set by the Board, such as the rationale for the activities being carried on overseas, the mechanisms to be implemented for commercialisation of the R&D results and intellectual property arrangements. The other information could also include other material, for instance information on the applicant and its other activities, that would help the Board to discharge its responsibilities. [Item 3 of Schedule 4; new section 39EC]

8.70 A company that started a project before 1 July 1994 will be eligible to apply for a provisional certificate for any proposed overseas R&D activities. However, the provisional certificate will be restricted to expenditure incurred after the certificate is issued and on the activities specified on the certificate. (The activities themselves may have already commenced, like the project.)

Calculation of the 10 per cent limit

8.71 Companies must advise the Board, in their application for a provisional certificate, the amount of expenditure that they propose to claim as a deduction under section 73B on the ITAA. The deduction allowable for overseas R&D activities will be limited to 10 per cent of the total project expenditure that a company has incurred and proposes to incur from the day the project commenced until the day the project is completed. The proposed deduction for expenditure on overseas R&D activities will be the lesser of:

•

the proposed expenditure on overseas R&D activities; or

•

10 per cent of the total expenditure that the company has incurred or proposes to incur on the project of R&D activities.

Provisional certificate

8.72 The Board will have 90 days to decide whether to issue a provisional certificate in relation to an application received from a company. A 90 day period has been set to ensure that companies seeking to perform R&D outside Australia do not suffer as a result of administrative delays. If at the end of 90 days the Board has not made a decision then it is taken to have made a decision to refuse the application. This deemed refusal triggers rights of review of the Board's decision. The Board may, during the original 90 day period, ask the company for additional information in relation to its application. A new 90 day period will start after the Board has received the additional information from the company. [Item 3 of Schedule 4; new section 39ED]

8.73 A provisional certificate will be issued by the Board showing the overseas R&D activities that will qualify for the concession. It is only expenditure on the overseas R&D activities covered by a provisional certificate and incurred to the extent of the limit shown on the certificate that will qualify for the concession. Expenditure incurred on the overseas R&D activities before the Board issues the provisional certificate will not qualify for the concession.

8.74 When the Board issues a provisional certificate under new section 39ED that certificate will:

•

describe the overseas R&D activities covered by the certificate;

•

describe the overall project of R&D activities to which the overseas R&D activities relate;

•

state the amount of proposed expenditure on overseas R&D activities in respect of which the company proposes to claim a deduction under section 73B of the ITAA; and

•

contain any other matters that the Board considers relevant. These other matters may relate to the provisional certificate criteria that will be set out by the Board in the guidelines. [Item 3 of Schedule 4; new subsection 39EE(1)]

8.75 One possible feature of provisional certificates might be the identification of the overseas R&D activities by reference to identifiable expenditures or levels of expenditure. For example, an activity could be described as the activity for which the company is to incur expenditure to a particular institution under a particular agreement in relation to the project; it could be described as the activity in a particular project plan to the extent of a particular level of expenditure overall. Such a feature might be appropriate to a range of circumstances in which a particular part of a project of R&D is to be carried out overseas.

Amendments to the provisional certificate

8.76 A company which holds a provisional certificate may seek to have the Board vary it. There could be a change to add other overseas R&D activities, or to alter the description of particular activities to agree more precisely with what is proposed. There could be a change to the maximum amount in respect of which the company proposes to claim. (There could be related changes, removing references to particular overseas R&D activities which are no longer proposed to be carried out, or altering the description of the project of R&D if the project changes direction.) These changes are significant, because expenditure in relation to overseas R&D activities cannot be deducted unless the Board had given a certificate in relation to those activities before the expenditure was incurred. Changes to total expenditure, or to projected expenditure on particular activities, might require changes to the overseas activities specified by the Board's certificate. [Item 3 of Schedule 4; new subsection 39EE(2)]

8.77 The Board considers the request for an amendment in the light of the same criteria which apply to first time applications. The amendment will be considered in respect of the revised project as if it were a new application.

8.78 The original certificate must be returned to the Board, and the Board will amend the certificate and return the amended certificate to the company. This avoids the problem of a company having two inconsistent certificates at the same time. [Item 3 of Schedule 4; new subsection 39EE(3)]

Certificate issued to the Commissioner

8.79 The Commissioner of Taxation will be able to request from the Board a binding certificate concerning the overseas R&D activities of a company. The certificate given to the Commissioner by the Board will state whether any particular activities that have been or are being carried on by or on behalf of an eligible company were or are described in a provisional certificate given to a company.

8.80 The Commissioner will only need to request such certificates for particular activities where there is dispute over whether the activities are covered by a provisional certificate given to the company. Ordinarily the Commissioner's requests would be confined to the matter in dispute. Where the Commissioner requests a certificate from the Board, the Board must comply with that request. The Board will also have the power to issue a certificate without receiving a request from the Commissioner. [Item 5 of Schedule 4; new subsection 39LAA(1)]

8.81 Where the Board gives a certificate to the Commissioner it must also provide a copy of that certificate to the company. Where the Board has decided that certain activities were not covered by the certificate it must give the reasons for those decisions to the company concerned. [Item 5 of Schedule 4; new subsection 39LAA(2)]

Review of Board decisions

8.82 Section 39S will be amended to allow a company to request an internal review where the Board has:

•

refused to grant a provisional certificate [subitem 7(a) of Schedule 4; insertion of reference to subsection 39ED in subsection 39S(1)];

•

refused to vary a provisional certificate that has been issued to a company [subitem 7(a) of Schedule 4; insertion of reference to section 39EE(3) in subsection 39S(1)];

•

issued a certificate to the Commissioner under new subsection 39LAA(1) that states that the companies overseas R&D activities are not the activities described in a particular provisional certificate [subitem 7(b) of Schedule 4; insertion of reference to section 39LAA in subsection 39S(1)].

8.83 Following such a review, if the company is still dissatisfied with the Board's decision it will be entitled to lodge a request for review with the Administrative Appeals Tribunal in accordance with section 39T of the IR&D Act.

Other amendments

8.84 The proposed amendments to subsection 39E(1) and section 39F are required to maintain the existing interpretation of the subsection and section. The proposed amendments are necessary because the definition of 'research and development activities' in the ITAA will change from Australian R&D activities to Australian and overseas R&D activities.

8.85 Section 39E requires the Board to formulate guidelines which are used by companies to determine what are 'research and development activities' that have adequate Australian content. These requirements relate to 'research and development activities' that are carried on in Australia or an external Territory. The proposed amendments to subsection 39E(1) to insert 'Australian' before 'research and development activities' will not change the application of the existing provisions. [Item 2 of Schedule 4; amended subsection 39E(1)]

8.86 Section 39F provides for the registration of research agencies, in relation only to specified R&D activities. At present these are only activities carried out in Australia or an external Territory. The proposed amendments confine references to R&D in section 39F to Australian R&D. Registered research agencies will continue to be registered only for 'Australian research and development activities'. [Item 2 of Schedule 4; amended section 39F]

(c) Reduced expenditure threshold for syndicates

8.87 Section 39P enables the Board to register two or more companies jointly in relation to a proposed project involving R&D activities. The process of joint registration provides a basis for prior 'in principle' approval of a proposed venture so as to give some assurance to portfolio investors that they may be entitled to deductions under section 73B of the ITAA in respect of their contributions to the syndicate's expenditure on R&D activities.

8.88 The minimum investment required for registration as a syndicate will be reduced from $1,000,000 to $500,000. [Item 6 of Schedule 4; amended paragraph 39P(3)(c)]

8.89 The reduction is designed to facilitate access to the R&D tax concession for small-to-medium sized firms who will be able to use the syndicate structure to finance smaller R&D projects.

Payments of interest on overpayments and early payments

Overview

9.1 The Bill will widen the circumstances in which interest is paid to taxpayers who overpay their income tax and provide for interest to be paid to taxpayers who pay their income tax early.

Summary of the amendments

Purpose of the amendments

9.2 To provide compensation, in the form of interest, to taxpayers who overpay their income tax or who pay their income tax before the due date for payment.

Date of effect

9.3 The proposed amendments will generally apply to certain specified overpayments identified, and early payments made, on or after 1 July 1994 in respect of income tax for the 1993-94 year of income and later years.

Background to the legislation

Overpayments of income tax

9.4 Interest is already payable under the Taxation (Interest on Overpayments) Act 1983 (the Overpayments Act) on certain overpayments of tax. The types of tax covered are described in the definition of "relevant tax" in subsection 3(1) of the Overpayments Act. They include income tax, fringe benefits tax, sales tax and other taxes administered by the Commissioner of Taxation.

9.5 An overpayment of income tax will arise where the amount of tax previously assessed and paid by the taxpayer is found to be excessive. Tax assessed is the amount of tax payable on taxable income or, in the case of certain trustees, the amount of tax payable on net income. Tax assessed can also be the amount of additional tax ascertained under one of the penalty provisions in Part VII of the Income Tax Assessment Act 1936 (the Tax Act) or the amount of interest ascertained under section 102AAM of the Act.

9.6 A reduction in the amount of tax assessed can only be made by amending the assessment. This reduction in the liability under an assessment is a credit amendment. There will be an overpayment in any case where an amount in excess of the reduced amount of tax has already been paid. The overpayment would be refunded or credited against other obligations at the time the taxpayer is given notice of the amended assessment. Overpayments resulting from credit amendments may qualify for interest under the existing provisions of the Overpayments Act.

9.7 There are a number of instances, apart from those involving credit amendments, where an overpayment of tax may occur. For example, an overpayment of income tax may be identified when the Commissioner credits in payment of tax assessed amounts collected under various advance tax collection schemes such as the salary and wages tax instalment deduction scheme, the prescribed payments scheme, the arrangements for payment of provisional tax and the company instalment arrangements. The law generally requires that these overpayments be refunded to the taxpayer or credited against other liabilities of the taxpayer. This is usually done at the time a notice of assessment for the year of income, or a notice advising that no tax is payable, is sent to the taxpayer.

9.8 An overpayment could also occur where amounts paid under a PAYE scheme are for some reason credited some time after an original assessment of tax payable has been made. Amounts might be credited late, for example, where a taxpayer initially overlooks to include a group certificate with the tax return for a year but lodges the group certificate later, after the assessment has been made. Overpayments of tax may also arise when a claim for foreign tax credits is lodged after the assessment is made. These overpayments must also be refunded or credited against other outstanding debts. In some cases this will be done at the time the assessment is amended. This would occur, for example, where taxable income is increased to include additional income disclosed in a late group certificate but the tax instalment deductions shown on the certificate exceed the tax on the income. In other cases the amount of the overpayment will simply be refunded or credited against other liabilities, as required, without any amendment.

9.9 Overpayments may also arise where there are refunds of company instalments, provisional tax and certain other advance payments. They may also arise where certain penalties related to income tax are remitted after having been paid. For example, if a person had paid a late payment penalty that was later remitted, wholly or in part, there would be an overpayment to the extent of the amount remitted.

9.10 This Bill will provide for interest to be paid, in certain circumstances, on the overpayments described in paragraphs 9.7, 9.8 and 9.9. The types of overpayment described in paragraphs 9.7 and 9.9 will generally qualify for interest where a request for refund of the overpayment is not processed with 30 days. In these cases interest will be paid for the period commencing 30 days after the day when the request for refund was made and ending on the day when the refund was made. Where the overpayment is ascertained when the Commissioner credits amounts paid in advance, whether paid under an advance tax collection scheme or paid separately by the taxpayer, at the time an original assessment is made, the taxpayer's return will be taken to be a request for refund.

9.11 The overpayments in paragraph 9.8 will generally qualify for interest because the relevant advance tax collection scheme amounts should properly have been credited at the time the tax for the year of income was first assessed. Because these late creditings are similar to credit amendments, the interest period will be the same as for credit amendments.

9.12 There are some overpayments of income tax, identified by a credit amendment or the crediting of an amount, which may not qualify for interest or which will qualify for a limited amount of interest. These overpayments arise in an international context where a downward correlative adjustment is made by Australia to relieve international double taxation which has arisen as a result of a foreign tax administration making a transfer pricing or profit/expense allocation adjustment. These exceptions and limitations are discussed in more detail at paragraphs 9.62 9.67.

Overpayments under advance tax collection schemes

9.13 Although amounts collected under the various advance tax collection schemes in anticipation of a tax liability may often exceed the final amount of tax payable, an overpayment does not result until the amounts collected are credited in payment of the tax assessed. It is generally not possible to ascertain whether excessive advance tax collection amounts have been collected until the relevant tax liability has been determined. Most advance tax collection amounts are not paid directly by a taxpayer, but are deducted from the taxpayer's income and paid to the Commissioner by another person such as the taxpayer's employer. However, provisional taxpayers and companies pay advance amounts, i.e., provisional tax and company instalments, directly to the Commissioner. In some cases these taxpayers may be able to determine in advance that the amount paid is excessive. In these cases, the law allows a person to vary downwards the amount of provisional tax and a company to vary the amount of a company instalment. Any overpayments that arise from such variations must generally be refunded or applied against another liability of the taxpayer. These overpayments will qualify for interest if a request for a variation is not dealt with by the Commissioner within 30 days.

Explanation of the amendments

Interest on early payments of income tax

9.14 The Bill will change the title of the Overpayments Act to the

Taxation (Interest on Overpayments and Early Payments) Act [item 2 of Schedule 5] and insert a new Part IIA [item 11 of Schedule 5] that will provide for interest to be paid on certain early payments of income tax. For this purpose income tax will include [new subsection 8A(1)]:

•

amounts notified in a notice of assessment issued under the Act, i.e., income tax, including Medicare levy;

•

HEC assessment debt under the Higher Education Funding Act 1988;

•

FS assessment debt under the Student Assistance Act 1973;

•

additional tax under Part VII of the Tax Act;

•

interest under section 102AAM of the Act;

•

amounts of provisional tax, including an instalment of provisional tax; and

•

company tax instalments, i.e., initial and final payments of tax payable under Division 1B of Part VI of the Tax Act and instalments payable under Division 1C.

9.15 Interest will be payable where an amount of income tax is paid more than 14 days before the due date, but not where the payment is simply an application of a credit to which the person is entitled. This means interest on early payments will only be paid to a person where the person makes an actual payment of tax to the Commissioner. Interest on early payments will not be payable on any part of a payment that exceeds the amount of income tax that is due. Interest on early payments will not be attracted by amounts deducted from payments to a person under arrangements for advance collection of tax [new subsection 8A(2)]. For instance, tax instalment deductions made from a person's salary by an employer will not qualify for interest on early payments. Nor will a payment by the employer of the amount deducted to the Commissioner.

9.16 Amounts that may be credited in payment of a person's tax but are not directly paid by the person will not qualify for interest on early payments [new subsection 8A(3)]. These amounts include items like tax instalment deductions from salary and prescribed payment system deductions that are finally credited against tax payable after an assessment has been made. A full list of these amounts is contained in the definition of 'income tax crediting amount' being inserted by item 9 of Schedule 5. As well as income tax crediting amounts, overpayments of other income tax liabilities (say for an earlier or later year) or other tax liabilities (like FBT or sales tax, for instance) may be credited against an income tax liability. These credits do not qualify for interest on early payments.

9.17 For taxpayers who are on full self assessment (that is, companies, superannuation funds, and certain taxpayers who are treated like companies) the period for which early payment interest is calculated will generally run from the day an early payment is made until the day when the relevant amount of income tax becomes due and payable. For taxpayers not on full self assessment (referred to in this chapter as ordinary taxpayers), a payment made in advance of an assessment will only qualify for interest from the day when the assessment is made. [New section 8B]

9.18 The new provisions will apply to payments made on or after 1 July 1994 in respect of income tax liabilities for the 1993-94 year of income and later years.

Example 1

9.19 A company's final payment of tax for the 1993-94 year of income is due on 15 March 1995. The company's accounts were completed well before the due date for lodgment of the tax return. After taking into account its initial payment and other credits the company calculated its final liability to be $2,000. The company decided to lodge its return early. It also made an early payment on 15 January 1995. The company is entitled to early payment interest on $2,000 calculated from 15 January 1995 to 15 March 1995.

9.20 Under the new instalment arrangements the same company's first instalment of tax of $5,000 for the 1994 95 year of income falls due on 1 June 1995. The amount of the instalment is 25% of its likely tax of $20,000. The company makes a payment of $3,000 on 10 May 1995 and a further payment of $2,000 on 1 June 1995. The company is entitled to early payment interest on $3,000 for the period from 10 May 1995 to 1 June 1995, i.e. 23 days.

Example 2

9.21 On 30 October 1994 an ordinary taxpayer makes an early payment of $500 in respect of income tax for the 1993-94 year. The Commissioner issues a notice of assessment of the tax payable on 10 January 1995. The balance payable on the assessment is $150, which is the tax payable of $650 less the advance payment of $500. That amount is due on 1 April 1995. The taxpayer is entitled to early payment interest on $500 for the period from 10 January 1995 (i.e., later of payment date and date notice of assessment issued) to 1 April 1995.

9.22 On 31 January 1995 the Commissioner notifies the above taxpayer of a 1994-95 provisional tax liability of $2,000. The provisional tax is due for payment on 1 April 1995. On 10 February 1995 the taxpayer makes a payment of $2,150 in respect of the $150 balance payable on the 1993-94 income tax assessment and the $2,000 liability for1994-95 provisional tax. The taxpayer is entitled to early payment interest on $2,000 in respect of provisional tax and early payment interest on $150 in respect of income tax for the period from 10 February 1995 to 1 April 1995.

Example 3

Interest payable on new qualifying overpayments

Overpayments resulting from credit amendments

9.24 Under the existing law, the only overpayments that qualify for interest are those described in paragraph 9.6. Even these overpayments only qualify when a further condition is met. This condition is that the credit amendment giving rise to the overpayment must be made as a consequence of a decision to which the Overpayments Act applies. There are two broad types of decision which may lead to a qualifying credit amendment. The first is where the Commissioner, the Administrative Appeals Tribunal or a court makes a decision in relation to an objection by a taxpayer against an income tax assessment. The second is where the Commissioner decides to amend an assessment to reduce a taxpayer's liability without the taxpayer having sought an amendment.

9.25 When interest is payable under the existing law on an overpayment of income tax caused by a credit amendment, the interest period commences on the later of the day when the original notice of assessment was issued or the day when a payment was made to the Commissioner by the taxpayer. The former day is taken to be the date of payment in respect of amounts collected in advance under the various PAYE schemes that are credited in payment of tax assessed at the time when the assessment is made. The interest period ends on the day when the overpayment is refunded to the taxpayer or credited against some other liability of the taxpayer.

9.26 The Bill will change the existing law in two ways. First, it will remove the condition mentioned in paragraph 9.24, so that nearly all overpayments of income tax resulting from credit amendments will qualify for interest. (The only exceptions will be certain amendments to relieve international double taxation - see notes at paragraphs 9.62 to 9.67). This will be achieved by amending the definition of "decision to which this Act applies" in subsection 3(1) of the Overpayments Act [item 4 of Schedule 5]. The amendment will apply to relevant decisions occurring after 30 June 1994 insofar as they relate to assessments for the 1993-94 year of income and later years.

9.27 Secondly, the interest period for taxpayers on full self assessment, i.e., companies, superannuation funds and certain other taxpayers taxed like companies, is to be altered to make it consistent with full self assessment arrangements. Under those arrangements, companies are expected to lodge a tax return and make their final payments of tax for a year on a particular day (the final instalment day - see definition being inserted by item 9 of Schedule 5).

9.28 Both late payment penalty, under sections 207 and 207A of the Tax Act, and underpayment interest payable under section 170AA on a tax shortfall for a company arising from an amended assessment, are calculated from the final instalment day until the liability is paid. This is the case even though the actual assessment may not have been made until after the final instalment day. The Bill will ensure consistent treatment for interest on an overpayment of company tax that results from a credit amendment. At present the overpayment interest period commences on the later of the day the original assessment being amended was issued or the date when a payment was made by the company. The former day is, effectively, taken to be the day when advance tax collection amounts, like company instalments or prescribed payment system deductions are credited. In future the interest period for companies will commence on the later of the final instalment day or the day when the company paid the tax. [Item 17 of Schedule 5]

9.29 This amendment will apply in respect of decisions to which the Overpayments Act applies that occur after 30 June 1994 and that relate to assessments for the 1993-94 and later years of income.

Example 4

9.30 A company lodged its return for the 1993-94 year and made a final payment of tax on 6 March 1995. The company later discovered that it had omitted from its calculation of taxable income a $1,200 deduction for the investment allowance. It requested the Commissioner to amend the assessment to allow the deduction. The Commissioner made an amendment to the assessment on 23 September 1995 that reduced the tax payable by $396. The company is entitled to interest on overpayments on $396 for the period from 15 March 1995 to 23 September 1995, that is from the final instalment day to the date of the refund.

Interest on overpayments of income tax resulting from assessments

9.31 The Bill will also insert new Part IIB in the Overpayments Act to further expand the range of overpayments that qualify for interest under that Act. In broad terms, these new overpayments can be described as overpayments resulting from assessments.

9.32 As mentioned in paragraph 9.8, it will often happen that an overpayment of income tax is discovered after a person has lodged a tax return, at the time when the person's income tax assessment for a year of income is made. A typical example of this is where tax instalments deducted from a person's salary and wages exceed the final tax liability for the year, resulting in a refund to the person. In certain circumstances an overpayment of this type is to qualify for interest. That is to be the case whether the overpayment is refunded or is applied against some other liability of the taxpayer.

Entitlement to interest - ordinary taxpayers

9.33 New subsection 8E(1) will identify overpayments in original assessments for ordinary taxpayers (i.e., those taxpayers who are not on full self assessment) by comparing the sum of income tax liabilities notified in an assessment notice for a year of income with the sum of any credits (income tax crediting amounts) that are notified as having been set off against the liabilities. Where there is an excess of income tax crediting amounts over income tax liabilities, then subject to the qualification in paragraph 9.35, the excess will attract interest regardless of whether it is refunded or not.

9.34 For the purposes of this process, income tax liabilities for an ordinary taxpayer include income tax (including the medicare levy) assessed on taxable income, any related HEC or FS assessment debt calculated by reference to that taxable income, any additional tax assessed under Part VII of the Tax Act and any section 102AAM interest payable for the year of income. The 'income tax crediting amounts' to be compared to these liabilities (see full definition being inserted by item 9 of Schedule 5) include any amounts that may be credited in payment of income tax apart from overpayments of other liabilities and interest payable to a person under the Overpayments Act on such overpayments. Income tax crediting amounts do not include payments made directly by a taxpayer. The types of amounts that may be credited are generally those deducted under statutory arrangements for payment of tax in advance, e.g., tax instalments deducted from salary and wages, amounts deducted under the prescribed payments system, payments of provisional tax and amounts deducted under tax file number and other withholding tax arrangements. Also included are foreign tax credits. The application of these income tax crediting amounts immediately following the assessment is referred to as a 'notice crediting' [new paragraph 8E(1)(c)]. The income tax crediting amounts are shown on the notice of assessment.

9.35 Where, following an assessment, there is an excess of income tax crediting amounts over income tax liabilities at the time when an ordinary taxpayer is given a notice of the assessment, the excess will attract interest if the assessment notice is issued more than 30 days after the day when the person lodged a tax return for the year of income [new subsection 8E(1)]. The interest will generally be payable from the 30th day after the return was lodged until the day the assessment was issued [new subsection 8F(1)]. However, the interest period can never commence before 1 July 1994.

9.36 Special provisions will deal with cases where a taxpayer lodges a return but it is found that no tax is payable. This is necessary to trigger the operation of new subsection 8E(1), which requires that an assessment of tax has been made and a notice of the assessment given to the taxpayer before an interest entitlement can arise. The special provisions [new subsections 8K(1) and (2)] deem that an assessment has been made under which a nil amount of tax is payable and treat the notice that no tax is payable as a notice of the nil assessment.

9.37 Interest will also be payable where an income tax crediting amount is not credited until some time after an assessment has been made [new subsection 8E(2)]. This later application of income tax crediting amounts is referred to as a 'post-notice crediting' [new paragraph 8E(2)(c)]. These creditings could happen, for instance, where a person applies for a prescribed payment system credit after an original assessment has been made. In such a case the relevant income tax crediting amount will be compared with any income tax liability for that year that remains outstanding to determine whether there is an excess. Any excess amount will attract interest.

9.38 New subsection 8E(2) will deal with some cases where amounts are credited in an original assessment. These are cases where new subsections 8K(1) and (2), discussed in paragraph 9.36, have already deemed an original assessment to have been made where no tax was payable. Cases like this could typically occur where a person does not include a group certificate with a tax return but sends it in later, causing his or her taxable income to increase and exceed the tax free threshold.

9.39 The interest period in these cases is to be based on the existing rules that apply to overpayments of tax resulting from amendments. That is, the period will commence on the later of the day the original assessment for the year was made or the day when a subsequent payment of tax was made [new subsections 8E(2) and (3)]. However, the interest period cannot commence before 1 July 1994. Where any subsequent payments have been made, an excess will be taken to be attributable to payments in reverse order to the order in which they were made. This is also consistent with the operation of the existing Overpayments Act. Payments already treated as overpayments by an application of the existing rules or an earlier application of these new rules will be disregarded in calculating interest for a later crediting of an income tax crediting amount.

Example 5

9.40 A taxpayer lodges a return for the 1993-94 year and the Commissioner makes an assessment on 21 August 1994. The assessment has a balance of tax payable of $100 which is due on 1 December 1994. The taxpayer makes the payment on 30 November 1994. The taxpayer later becomes aware of an additional group certificate which shows income of $4,000 which was not included in the return. The taxpayer requests the Commissioner to make an amendment to include the additional income in the assessment. On 22 April 1995 the Commissioner amends the assessment to increase the taxable income. Although there is an increase in taxable income, the taxpayer is entitled to a refund of excess credits of $300 because an amount of $2,000 was shown as tax instalment deductions in the group certificate. The taxpayer is entitled to interest on overpayments on $100 for the period 30 November 1994 to 22 April 1995 and on $200 for the period 21 August 1994 to 22 April 1995.

Entitlement to interest - relevant entities and instalment taxpayers (companies)

9.41 Companies will be entitled to interest on overpayments arising from assessments in much the same way as ordinary taxpayers (see new subsections 8G(1) and 8G(2), which substantially mirror new sections 8E(1) and 8E(2)). However, there are some differences in the requirements that have to be satisfied for an interest entitlement to arise and in the interest period. The differences generally reflect the fact that companies are on full self assessment while ordinary taxpayers are not.

9.42 As happens with ordinary taxpayers a company will be entitled to interest where, at a particular time, the sum of any income tax crediting amounts credited by the Commissioner exceed the income tax liabilities of the company. As with ordinary taxpayers, the first crediting is likely to occur soon after a tax return is furnished for a year of income. However, under full self assessment the Commissioner is deemed to make original assessment on the later of the final instalment day or the date the return is lodged and the return is deemed to be a notice of the assessment. As the Commissioner does not prepare a notice of assessment, the application of the crediting amounts to process the overpayment could not be given to a company in the deemed notice of assessment. For that reason, new paragraphs 8G(1)(b) and (c) are different to paragraphs 8E(1)(b) and (c). They do not require that an assessment should have been made and notice of any credits given in the notice of the assessment. Instead they require that the Commissioner credit an income tax crediting amount in payment of the company tax and that this be the first time when such an amount has been credited. This application of credits is referred to as a 'first crediting' [new paragraph 8G(1)(b)].

9.43 Apart from the difference referred to in paragraph 9.42, the liabilities of a company, to be compared to crediting amounts to arrive at any excess, are different [new paragraphs 8G(1)(d) and 8G(2)(c)]. This is because companies cannot be liable for a HEC assessment debt or FS assessment debt.

9.44 As with ordinary taxpayers, interest will also be payable where an income tax crediting amount is credited some time after an assessment has been made [new subsection 8G(2)]. This later application credit is referred to as a 'later crediting' [new paragraph 8G(2)(b)]. These creditings could happen, for instance, where a person applies for a foreign tax credit after a first crediting had occurred. In such a case the relevant income tax crediting amount will be compared with any income tax payable for that year that remains outstanding to determine whether there is an excess. The excess amount will attract interest.

9.45 The interest period for companies can be different to the period that would apply to an ordinary taxpayer. Where an interest entitlement for a company is in respect of a first crediting (entitlement under new subsection 8G(1)) the interest period will generally depend on when the company lodged its tax return but the interest period can never commence before 1 July 1994. The are three different circumstances affecting the commencement of the interest period. They are as follows:

•

if the return was lodged 30 days or more before the final instalment day, and the overpayment is not refunded or credited to another liability within 30 days, the interest period will commence on the 30th day after the date of lodgement;

•

if the return was lodged less than 30 days before the final instalment day and the overpayment is not refunded or credited to another liability before the final instalment day, the interest period will commence on the final instalment day; and

•

if the return was lodged on or after the final instalment day, the interest period will commence on the final instalment day.

This is different to what happens with ordinary taxpayers, who are not expected to pay their tax until an assessment is issued. Because any late payment penalty on unpaid company tax commences to accrue from the final instalment day, interest on overpayments will be paid for the period commencing on that day (see notes at paragraphs 9.27 and 9.28 on related amendments also).

9.46 These amendments will apply where the income tax crediting amounts are credited on or after 1 July 1994 and relate to income tax for the 1993-94 year of income or a later year.

Example 6

9.47 A company lodges its return for the 1993-94 year of income on 20 September 1994. It claims a refund of $5,000. The Commissioner processes the return and issues a refund cheque for $5,000 on 20 November 1994. The company is entitled to interest on overpayments on $5,000 for the period from 20 October 1994 to 20 November 1994 (i.e., 30 days after lodgment to the first crediting day).

Example 7

9.48 A company lodges its return for the 1993-94 year on 15 March 1995. It claims a refund of $4,000. The Commissioner processes the return on 28 April 1995 and issues the refund cheque. The taxpayer is entitled to interest on overpayments on $4,000 for the period from 15 March 1995 to 28 April 1995 (i.e., the final instalment day to the first crediting day).

Example 8

9.49 A company lodges its return for the 1993-94 year and makes a payment of $1,000, being the amount due, on 15 April 1995. The Commissioner is deemed to make an assessment on that day The following month the company becomes aware of a foreign tax credit of $2,000 and requests the Commissioner to allow the further credit. On 25 June 1995 the Commissioner issues a refund cheque for $2,000. The company is entitled to interest on overpayments on $1,000 for the period from 15 April 1995 to 25 June 1995 (i.e., from the payment day to the later crediting day) and on $1,000 for the period 15 March 1995 to 25 June 1995 (i.e., from the final instalment day to the later crediting day).

Interest on overpayments resulting from remission of income tax penalties or from income tax instalment variations

9.50 The Bill will insert a new Part IIIA to deal with certain overpayments of tax not connected with assessments [item 22 of Schedule 5]. Part IIIA will deal with overpayments that may result from remission of certain penalties or from reductions in provisional tax, provisional tax instalments or company tax instalments. It will also deal with refunds of certain advance payments of tax.

9.51 In a number of cases the law imposes penalties that are directly related to a person's own income tax liabilities. For example, a person who pays an amount of income tax after the due date for payment is liable to pay late payment penalty under section 207 of the Tax Act. Again, if a person seeks a downward variation of provisional tax on the basis of certain estimates and, in broad terms, the estimates are lower than the correct amount by more than 15%, the person is liable to pay a penalty under section 221YDB of the Tax Act.

9.52 If a person makes a payment of one of these penalties, directly related to the person's own income tax liabilities, and seeks remission of the penalty, an overpayment will result if the penalty is subsequently remitted to any extent. For example, if a person pays a late payment penalty of $20 that is later remitted in part to $10, there will be an overpayment of $10. Overpayments like this [new subparagraph 12A(a)(i)] are to qualify for interest if the remission takes place more than 30 days after the request for remission is made.

9.53 Overpayments can also occur under arrangements for collection of provisional tax (Division 3 of Part VI of the Tax Act) and advance payments of company tax (initial payments under Division 1B and company instalments under Division 1C of Part VI). These overpayments may occur for a number of reasons. For example, a person's provisional tax for a year, which is broadly calculated by reference to the tax payable in the previous year, may be reduced following a credit amendment that reduces the tax payable in the previous year. If the provisional tax had been paid, an overpayment will result that must be refunded to the person or credited against another liability (subsection 221YG(2) of the Tax Act). Where this reduction is done at the request of a person, the amount credited or refunded is to qualify for interest [new subparagraph 12A(a)(iii)] if the crediting or refund takes place more than 30 days after the request is made.

9.54 Similar overpayments may occur where an instalment of provisional tax is superseded (subsection 221YBA(6) of the Tax Act) or reduced (subsection 221YCA(2)), or an amount of provisional tax is varied downwards in accordance with section 221YDA. Where such an overpayment is determined as a result of a request by the person, interest will be payable if the relevant overpayment is credited or refunded more than 30 days after the request made [new subparagraph 12A(a)(iii)].

9.55 A range of similar overpayments can occur under the arrangements in Divisions 1B and 1C for collection of company tax. These overpayments [new subparagraph 12B(a)(ii)] must be refunded to the company and are to qualify for interest if the refund takes place more than 30 days after a request is made by the company.

9.56 A taxpayer will also be entitled to overpayment interest where the Commissioner takes longer than 30 days to refund certain payments of tax. These type of payments in advance are listed in new subparagraph 12A(a)(iv). The payments that are covered by this part are the same type of payments to which the interest on early payment provisions can apply, as outlined in paragraph 9.14.

9.57 In all of the cases covered by new Part IIIA, the interest period will commence on the 30th day after the relevant request is made and end on the day the relevant remission, crediting or refund occurs [new section 12B]. The new provisions will apply in the following circumstances:

•

where the remitted penalty relates to a liability for the 1993-94 year of income or a later year;

•

where the overpayment of a company instalment, provisional tax, or instalment of provisional tax is in respect of the 1993-94 year of income or a later year; and

•

where the request for a refund is in respect of an advance payment on account of a tax, a debt, interest, an amount or an instalment that will be payable in respect of the 1993-94 year of income or a later year.

However, where the request is made before 1 July 1994 interest will be payable only from 1 July 1994.

Example 9

9.58 A taxpayer has a liability to pay instalments of provisional tax for the 1994-95 year of income. After paying the second instalment of $3,000 the taxpayer estimates that taxable income to which provisional tax applies will be considerably less than what was assessed in the 1993-94 year. On 20 December 1994 the taxpayer lodges a variation statement with the Commissioner reducing the instalment to $1,000. As the taxpayer has paid $6,000 in the first two instalments there has been a $2,000 overpayment of provisional tax. The Commissioner processes the variation and issues a refund cheque on 15 February 1995. The taxpayer is entitled to interest on overpayments on $2,000 for the period from 19 January 1995 to 15 February 1995 (i.e., 30 days after lodging the refund request to the refund day).

Example 10

9.59 A company pays its initial instalment of tax of $85,000 on 28 July 1994. On 15 January 1995 the company's accountant completes its accounts and calculates that its tax for the 1993-94 year is $50,000. In order to get a refund of part of the initial instalment the company lodges an estimate of its taxable income for the year on 16 January 1995 reducing its initial instalment to $42,500. The Commissioner processes the refund on 23 March 1995. The company is entitled to interest on overpayment on $42,500 for the period from 15 February 1995 to 23 March 1995 (i.e., 30 days after lodging the refund request to the refund day).

9.60 There will be cases where the same payment will attract interest under more than one of the entitlement provisions. For example, this could occur where a company makes an early payment of an instalment of tax and later requests a refund of the excessive part of the instalment because of a downwards estimate of likely tax. Under Part IIIA the taxpayer will be entitled to overpayment interest if the excessive amount is not refunded within 30 days after the day on which the request was made. The overpayment interest will accrue from the 30th day until the day on which the refund takes place. There will also be an entitlement under Part IIA to early payment interest on the payment of the company instalment. The entitlement will include the interest on the excessive amount that will accrue until the day the refund takes place. Where this occurs the early payment interest will not be payable on the amount that is refunded for the period from the 30th day after the day on which the refund request was made until the day on which the refund takes place. [New section 8D]

Example 11

9.61 On 15 June 1995 a company makes an early payment of $5,000 on account of its second instalment of tax for the 1994-95 year of income. The amount of the instalment is 25% of its likely tax of $20,000. The instalment is due on 1 September 1995. The company then becomes aware that its tax for the year will be approximately $12,000 and on 15 July 1995 lodges an estimate to reduce the instalments to $3,000. The Commissioner issues a refund for the overpaid instalments on 10 September 1995. The company is entitled to early payment interest on $3,000 from 15 June 1995 to 13 August 1994 (from the day of payment until the day before the day that overpayment interest commenced) and overpayment interest on $2,000 from 14 August 1995 to 1 September 1995 (from 30 days after lodgment of the likely tax estimate until the day the refund issues).

Entitlement to interest - correlative adjustments to relieve international double taxation arising from transfer pricing

9.62 The payment of interest is premised on there being an overpayment of income tax. There are certain situations where an amount will be refunded or credited to a taxpayer which will not be identified with an overpayment of tax upon which interest will be payable. These situations occur in the international context where a downward correlative adjustment is made by Australia to relieve international double taxation which has arisen as a result of a foreign tax administration making a transfer pricing or profit/expense allocation debit adjustment.

9.63 Where profits are shifted internationally through transfer pricing or other means it does not generally lead to an overpayment of tax on a global basis. Such profit shifting merely leads to less tax being paid in one country and more in another. Where profits are shifted to Australia and the foreign tax administration makes an appropriate debit adjustment for its tax purposes, Australia is generally obliged under its international tax treaties to reduce the Australian tax payable by a corresponding downward correlative adjustment.

9.64 To ensure that taxpayers and multinational enterprises (MNEs) do not suffer undue double taxation, where an overpayment of tax results from a downward correlative adjustment (to provide correlative relief - see definition being inserted by item 9 of Schedule 5) which is effected by a credit amendment or the crediting of an amount for foreign tax paid, interest will be payable in respect of the overpayment where the foreign country making the upwards transfer pricing adjustment imposes an interest charge in respect of that adjustment (late payment interest - see definition being inserted by item 9 of Schedule 5). Interest will not be paid on overpayments resulting from a downward correlative adjustment where the foreign country does not impose interest on its corresponding underpayment of tax. To do so would result in a windfall gain for a taxpayer or MNE where the taxpayer or MNE viewed as an economic unit has not overpaid its global tax obligations. This would place taxpayers or MNEs who engage in international profit shifting through transfer pricing in a better position than those who do not [item 13 of Schedule 5].

9.65 The following provisions in Australia's double tax agreement with Austria are examples of the types of provisions in Australia's international tax treaties which provide for correlative relief to be given:

•

paragraph (2) of Article 7, Business Profits;

•

paragraph (3) of Article 9, Associated Enterprises; and

•

Article 24, Mutual Agreement Procedure.

The type of credit amendments and crediting of amounts for foreign taxes paid which provide correlative relief will be prescribed in regulations [item 10 of Schedule 5].

9.66 Where an overpayment of income tax arising from the provision of correlative relief does qualify for the payment of interest, the amount of interest will be limited to the lesser of the following amounts:

•

the amount of interest that the taxpayer would otherwise be entitled to;

•

the amount of interest imposed by the foreign adjusting country; or

•

the amount of the correlative relief being provided.

[Item 20 of Schedule 5]

9.67 These limitations apply to qualifying overpayments of tax identified on or after 1 July 1994 in respect of income tax obligations for any year.

Rate of interest

9.68 The rate of interest payable on overpayments of tax under the Overpayments Act is presently specified in the Taxation (Interest on Overpayments) Regulations. The rate specified in those regulations from 1 July 1994 is the rate provided for in section 214A of the Tax Act, less 4 percent. The rate in section 214A, which is used in calculating interest on underpayments of income tax under section 170AA of the Tax Act, is based on the 13 week Treasury Note rate. The Treasury Note rate is increased by 4 percent to arrive at the section 214A rate.

9.69 The rate of interest provided for in section 214A can be adjusted from time to time to reflect changes in interest rates generally. These changes are automatically picked up for the purposes of calculating interest on overpayments of tax. Because of this, it is no longer necessary to prescribe the rate of interest on overpayments in regulations. That was originally done to allow the interest rate to be changed from time to time, without having to amend the Overpayments Act. The rate of interest payable on early payments of income tax, the new expanded range of overpayments of income tax and overpayments of other taxes will in future by specified in the Overpayments Act. [Item 18 of Schedule 5; new sections 8C, 8I and 12C]

Consequential amendments of other Acts

9.70 A number of other Acts pick up the rate of interest prescribed for the purpose of the Overpayments Act for purposes of their own. For instance, the interest rate used to determine the amount of interest payable under section 102AAM of the Tax Act is the rate prescribed for the purposes of section 10 of the Overpayments Act (see paragraph 102AAM(5)(b)).

9.71 The Bill will amend the following Acts to remove the reference to the interest rate prescribed for purposes of the Overpayments Act.

•

the Income Tax Assessment Act 1936

•

the Fringe Benefits Assessment Act 1986

•

the Petroleum Resource Rent Tax Assessment Act 1987

•

the Training Guarantee (Administration) Act 1990

These Acts will in future refer to the rate provided for in section 214A of the Tax Act. [Items 26-32, 37, 38, 42 and 43 of Schedule 5]

Miscellaneous amendments - adjustment of interest

9.72 Subsection 10(4) and sections 11 and 11A of the existing Overpayments Act deal with matters like rounding up or down interest payments and writing off small amounts (under 50 cents) of overpayments interest or small residual debts remaining after setting off an interest entitlement. If an amount of interest is less than 50 cents the amount is not payable to the person. Because the Overpayments Act will now have to deal with a range of new interest payments, under new Parts IIA, IIB and IIIA, these miscellaneous rules are being moved to a new Part IIIB that will deal with all of these cases. The Bill will omit existing subsection 10(4) and repeal sections 11 and 11A. [Items 19, 20 and 22 of Schedule 5]

Application of interest as a credit

9.73 Section 13 of the Overpayments Act allows the Commissioner to offset an amount of interest payable to a person against any other liability to the Commonwealth. The Bill will amend section 13 to allow the Commissioner to offset amounts payable on overpayments under new Parts IIB and IIIA as well as those payable under existing Part III. [Item 23 of Schedule 5]

9.74 The Bill will put in place some more specific rules concerning the crediting of amounts of interest payable on early payments under new Part IIA [item 24 of Schedule 5]. These rules will deal separately with early payments made by ordinary taxpayers and early payments made by companies.

Application of interest - ordinary taxpayers

9.75 For ordinary taxpayers interest in respect of an early payment of income tax for a year of income is generally to be credited first against income tax and other assessed liabilities payable for the following year of income [new subsection 13(2)]. The exception to this general rule is where early payment interest is in respect of an early payment of provisional tax or an instalment of provisional tax for a year of income. In that case the interest is to be credited first against income tax for the same year of income [new subsection 13(4)]. This is because provisional tax is payable in respect of the following year of income. While the Commissioner may offset a person's early payment interest in this way, this could lead to a delay in the entitlement being given to the person. Where this would occur, it will be open to a person to seek an earlier refund or crediting.

Example 12 9.76

A taxpayer has an income tax liability of $100 for the 1993-94 year and a provisional tax liability in respect of the 1994-95 year of $110. Both are due for payment on 1 April 1995. The taxpayer pays both liabilities before they are due and is entitled to early payment interest under Part IIA on both payments, totalling $6.

9.77 The Commissioner may offset both the interest entitlements first against income tax payable by the taxpayer for the 1994-95 year. Since the tax payable for 1994-95 will not be known for some time, the taxpayer may ask the Commissioner to either refund the $6 or credit it against any other liability of the taxpayer to the Commonwealth.

Application of interest - companies

9.78 Interest on early payments of tax by companies under Division 1B and 1C of the Assessment Act in respect of a year of income may be applied by the Commissioner against company tax for that year and then against any other liability of the company to the Commonwealth [new subsection 13(3)]. As in the case of ordinary taxpayers, a company may request the Commissioner to either pay the interest or credit it at an earlier time.

Example 13

9.79 Under the new instalment arrangements a company has its first instalment of tax of $5,000 for the 1994-95 year of income due on 1 June 1995. The amount of the instalment is 25% of its likely tax of $20,000. The company pays the $5,000 on 10 May 1995. The company is entitled to early payment interest of $10, i.e. interest on $5,000 for the period from 10 May 1995 to 1 June 1995. This amount of interest can be claimed by the company as a credit when it lodges its return for the 1994 95 year of income.

Superannuation guarantee charge - Preservation of interest rate

9.80 The Bill also amends the Superannuation Guarantee (Administration) Act 1992 (the Guarantee Act) to ensure that the rate of interest used to calculate the nominal interest component of superannuation guarantee charge and any additional charge imposed by way of late payment penalty continues to be 10% after 30 June 1994.

9.81 The Bill will remove the reference in the Guarantee Act to the rate of interest prescribed in regulations for the purposes of the Overpayments Act, as explained in paragraphs 9.70 and 9.71 will be the case with a number of other Acts. However, in the case of the Guarantee Act amendments will allow a rate of interest to be prescribed in regulations solely for the purposes of the Guarantee Act. Unlike amendments to the other Acts which, in future will refer to the rate provided for in section 214A of the Act, the 10% interest rate presently used for the purposes of the Guarantee Act will be preserved until the new regulations are made.

9.82 The Guarantee Act, broadly, requires employers to make superannuation contributions on behalf of employees. The amount of contributions is required to be a specified percentage of an employee's earnings base. Where the required amount of contributions are not made an employer will be liable to pay an amount of superannuation guarantee charge. The amount of charge payable is equal to the 'employer's superannuation guarantee shortfall', which is made up of three components. One component is the amount of contributions, in broad terms, required to be made by an employer that have not been made. Another component is a statutory amount, called the employer's administration component, that is determined in accordance with a formula in section 32 of the Guarantee Act. The final component is called the employer's nominal interest component.

9.83 When an amount of superannuation guarantee charge is paid to the Commissioner by an employer, that amount, less the administration component, is generally to be paid by the Commissioner to a superannuation fund or approved deposit fund on behalf of the relevant employee. In certain circumstances the amount may be paid directly to the employee or the employee's personal representative. This means the employee will get the benefit of the amount of superannuation contributions that should have been made, plus the employer's nominal interest component.

9.84 The employer's nominal interest component is worked out under section 31 of the Guarantee Act. In broad terms, this component is meant to reflect the amount of interest that would have been earned on the contributions not made by the employer, if they had been made to a superannuation fund and invested on behalf of the employee. It also serves as an incentive for employers to make superannuation contributions rather than pay the superannuation guarantee charge. The nominal rate of interest to be applied to the contributions shortfall under section 31 is the rate of interest prescribed for the purposes of the Overpayments Act. That rate, was until recently based on a benchmark interest rate that was considered reasonable for the purpose of calculating the employer's nominal interest component.

9.85 However, the benchmark interest rate for interest payable under the Overpayments Act changed from 1 July 1994. The new benchmark is the 13 week Treasury Note interest rate, which is significantly lower (it is currently about 4.7%) than the former benchmark rate (which was 10% at 30 June 1994). This new lower rate would not be an appropriate rate for the purpose of calculating the employer's nominal interest component of an employer's superannuation guarantee shortfall for two reasons. First, because a superannuation fund could ordinarily be expected to earn a higher rate than the new benchmark rate, employees would not be adequately compensated for lost earnings. Secondly, there would not be as much incentive for employers to pay superannuation contributions rather than superannuation guarantee charge.

9.86 The present benchmark rate of interest for the purpose of the Overpayments Act is also used in the Guarantee Act when calculating penalty (additional superannuation guarantee charge under section 49 of the Guarantee Act) in respect of late payment of superannuation guarantee charge. The new lower benchmark rate to apply to overpayments of tax from 1 July 1994 is also inappropriate for this purpose. This is because the penalty is not like ordinary late payment penalties that compensate the revenue for the delay in payment. Additional superannuation guarantee charge is like an extension of the employer's nominal interest component in that it compensates an employee for loss of earnings that would have been derived by a superannuation fund on behalf of the employee if the original charge had been paid on time and then been directed to the fund by the Commissioner. Along with a shortfall of superannuation contributions for an employee and the nominal interest component that is based on the shortfall, additional superannuation guarantee charge paid for late payment must be paid by the Commissioner to a superannuation fund or in another approved manner for the benefit of the employee.

Explanation of the amendments to the Guarantee Act

9.87 The Bill will amend sections 31 and 49 of the Guarantee Act to remove the references to the interest rate prescribed for the purposes of the Overpayments Act [items 33 and 35 of Schedule 5]. These references will be replaced with references to the rate of interest prescribed for the purposes of those sections. This will allow for regulations to be made for the specific purpose of setting an interest rate appropriate for the Guarantee Act. From 1 July 1994 until the relevant regulations are made, the rate of interest to be used for the purposes of sections 31 and 49 of the Guarantee Act is 10% [subitem 47(1) of Schedule 5]. This is, of course, the same rate that applies now for the purposes of those sections.

9.88 The amendments will affect the calculation of a nominal interest component under section 31 of the Guarantee Act for any year where the relevant interest period occurs after 1 July 1994 and before Schedule 2 commences to have effect [subitem 46(11) of Schedule 5]. They will also affect the calculation of additional superannuation guarantee charge under section 49 in respect of any superannuation guarantee charge that is overdue during that period [subitem 46(12) of Schedule 5]. The effect is that nominal interest components and late payment penalty will continue to be calculated using an interest rate of 10%.

9.89 A special provision [subitem 47(2) of Schedule 5] will make it clear that a person cannot unfairly suffer a penalty under Part 7 of the Guarantee Act or be taken to have committed an offence solely because of the retrospective effect of the amendment being made by subitem 47(1). Part 7 penalties are imposed, in broad terms, where an employer gives incorrect information to the Commissioner in a statement in relation to a superannuation guarantee charge liability. The effect of the special provision is that employers cannot be penalised if, during the period from 1 July 1994 until the commencement of the Bill, they used the interest rate prescribed for the purposes of the Overpayments Act at the time for the purpose of calculating superannuation guarantee charge in a superannuation guarantee statement given to the Commissioner. For instance, if a penalty was otherwise payable under section 60 of the Guarantee Act because a person understated the amount of nominal interest component of superannuation guarantee charge by using the 4.7% prescribed since 1 July 1994, no Part 7 penalty will apply.

9.90 However, a Part 7 penalty that is caused by something unrelated to the amendment being made by subitem 47(1) will apply normally [subitem 47(3) of Schedule 5]. An example is a section 60 penalty that applies because a person uses an incorrect rate of interest, say, 3%, or simply understates the amount of an individual superannuation guarantee shortfall, for instance. Another example is the penalty under subsection 59(1) of the Guarantee Act that applies if a person fails to provide a superannuation guarantee statement when required. In short, subitem 47(3) makes it clear that there is not to be a general moratorium on penalties under Part 7.

9.91 The special provision does not, of course, affect the calculation of additional superannuation guarantee charge imposed by Part 6 of the Guarantee Act in respect of late payment of superannuation guarantee charge.

Chapter 10 WITHDRAWN - Employee share acquisition schemes

Development allowance

Overview

11.1 The Bill will amend the Development Allowance Authority Act 1992 to require the applicant's signature on applications for the various stages of the development allowance, including variations and transfers of certificates of registration and pre-qualification.

Summary of the amendments

Purpose of the amendments

11.2 Currently, the applicant's signature (where the applicant is a natural person), the chairperson's signature (where the applicant is a company with a board of directors), or for other applicants, a signature as specified in the form, is only required on applications for registration for the development allowance. The amendments will extend this requirement to applications for pre-qualifying certificates, and for transfers and variations of certificates of registration and pre-qualification for the development allowance. [Item 1 of Schedule 7]

Date of effect

11.3 The amendments apply only to applications, and any associated reports, made after the date the Bill receives Royal Assent. [Item 9 of Schedule 7]

Background to the legislation

11.4 An application for the development allowance may be made by individuals, firms, joint ventures and partnerships. There are two phases in obtaining the development allowance:

•

the granting of a registration certificate at an early stage of the project's implementation, when an applicant has met basic eligibility requirements; and

•

the granting of a pre-qualification certificate at an advanced stage of the project's implementation, when further requirements, including the competitiveness test, have been met. The competitiveness test requires companies to meet certain micro-economic reform objectives in terms of work practices and input prices.

11.5 The existing provisions only specify a signature requirement in the case of an application for a certificate of registration. This signature is necessary because it obtains a broad commitment to complete the project and hence seeks to avoid registering speculative projects. Such an application must be accompanied by a report. An application is to be signed by the natural person who is the applicant, the chairperson of the Board for a company or, for non company entities, as specified in the form. The expectation is that a person of equivalent authority to a chairperson of a company board would be specified for a non-company entity. In the case of an individual, that person would sign the form.

11.6 At present, applications and associated reports in the following cases need only be in an approved form and no signature requirements are mentioned:

•

a pre-qualifying certificate (section 37);

•

a variation in a registration certificate or a pre-qualifying certificate (section 43);

•

a transfer of the benefits of registration or the pre-qualifying certificate where a takeover has occurred (section 50);

•

a transfer of the benefits of registration or the pre-qualifying certificate where a reconstitution of a joint venture has occurred (section 60); and

•

a transfer of the benefits of registration or the pre-qualifying certificate where a reconstitution of a partnership has occurred (section 70).

As a result, uncertainty and inconsistency can arise if different officers of a company were involved in different parts of the application process, particularly where the authority of lower level officers is not clear in regard to the company's micro-economic reform commitments.

Explanation of the amendments

11.7 The amendments will provide a consistent approach throughout all stages of obtaining the development allowance. This will extend the signature requirements to an application for a pre qualifying certificate, and for a transfer and a variation of certificates of registration and pre-qualification for the development allowance. The applicant's signature at the pre-qualification stage would serve to clearly indicate a commitment to meet the requirements of the competitiveness test and confirm the earlier commitment to the project.

11.8 The amendments expand the existing signature requirement to include not only an application for a registration certificate but also the associated report. As the report is used to determine eligibility for the allowance, the applicant's signature should certify the accuracy of the report. To achieve this effect the existing section 28(3) is repealed and is replaced with a provision that specifies that applications for a registration certificate and the associated report must be signed by the applicant, the company chairperson, or for other entities, as specified in the form. [Items 2 and 3 of Schedule 7]

11.9 To place the issue of accountability and company commitments beyond doubt, it is proposed the applicant's signature (where the applicant is a natural person), the chairperson's signature (where the applicant is a company with a board of directors), or for other applicants, a signature as specified in the form, will also be required for applications and any associated reports in the following cases:

•

a pre-qualifying certificate [item 4 of Schedule 7];

•

a variation in a registration certificate or a pre-qualifying certificate [item 5 of Schedule 7];

•

a transfer of the benefits of registration or the pre-qualifying certificate where a takeover has occurred [item 6 of Schedule 7];

•

a transfer of the benefits of registration or the pre-qualifying certificate where a reconstitution of a joint venture has occurred [item 7 of Schedule 7]; and

•

a transfer of the benefits of registration or the pre-qualifying certificate where a reconstitution of a partnership has occurred [item 8 of Schedule 7].