Senate

Supplementary Explanatory Memorandum

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

Glossary

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

General outline and financial impact

Conservation covenants

Amendment 1 inserts Schedule 7 to this bill. Schedule 7 introduces measures into the ITAA 1997 to provide concessional taxation treatment of conservation covenants entered into by certain taxpayers in order to protect areas of high conservation value.

Deductions

Date of effect: Conservation covenants entered into on or after 1 July 2002.

Proposal announced: The proposal was announced by the Prime Minister on 20 August 2001.

Financial impact: Less than $1 million per year.

Compliance cost impact: Taxpayers will incur tax deductible compliance costs associated with obtaining a valuation of the conservation covenant from the AVO. Taxpayers may also incur compliance costs in seeking approval for the conservation covenants from the Minister for the Environment and Heritage.

Capital gains tax

Date of effect: 15 June 2000.

Proposal announced: The proposal was announced in Treasurers Press Release No. 44 of 15 June 2001.

Financial impact: $2.3 million over 4 income years, starting in the 2000-2001 income year.

Compliance cost impact: There will be a small increase in compliance costs associated with seeking approval for permanent conservation covenants from the Minister for the Environment and Heritage.

Summary of regulation impact statement

Regulation impact on business

Impact: These measures will increase participation in conservation programs that may result in Australias areas of environmental significance being maintained into the future.

Main points:

•

These measures only apply to taxpayers entering into a conservation covenant or program approved by the Minister for the Environment and Heritage.

•

The cost to taxpayers to familiarise themselves with the proposed amendments cannot be reliably quantified. Taxpayers may use a variety of means to familiarise themselves with the proposed amendments.

•

In order to claim an income tax deduction for a conservation covenant, the Commissioner will require the taxpayer to obtain a tax deductible valuation from the AVO.

•

Most of the administrative costs associated with implementing this measure will be associated with Environment Australia setting up and maintaining the register of accredited conservation programs. Short term costs are outweighed by the increased incentive to enter into conservation covenants.

Spreading deductions for property gifts and conservation covenants

Amendment 2 inserts Schedule 8 to this bill. Schedule 8 introduces a measure into the ITAA 1997 to allow deductions for gifts of property valued at more than $5,000 to be spread over a period of up to 5 years. This measure will also apply to deductions for perpetual conservation covenants entered into with certain deductible gift recipients.

Date of effect: The amendments apply to gifts of property valued at more than $5,000, or conservation covenants entered into, on or after 1 July 2002.

Proposal announced: The measure was announced by the Prime Minister on 30 March 2001 and 20 August 2001.

Financial impact: The financial impact of the proposed amendment will be $2 million in 2003-2004 rising to $10 million in 2007-2008 and later income years.

Compliance cost impact: Taxpayers will incur tax deductible compliance costs in obtaining a valuation of the conservation covenant from the AVO.

Chapter 1 - Conservation covenants

Outline of chapter

1.1 Amendment 1 inserts Schedule 7 to this bill. Schedule 7 will amend the ITAA 1997 to provide concessional taxation treatment for taxpayers entering into certain types of conservation covenants.

1.2 Certain types of conservation covenants entered into on or after 1 July 2002 will be eligible for:

•

an income tax deduction; and

•

concessional CGT treatment,

where the land owner does not receive money, property or any other material benefit for entering into the covenant.

1.3 Concessional CGT treatment will also be available from 15 June 2000 for conservation covenants entered into by taxpayers to protect areas of high conservation value.

1.4 The income tax deduction for certain types of conservation covenants is discussed in Part 1 of this chapter and the concessional CGT treatment is discussed in Part 2 of this chapter.

PART 1 - Deductions

Context of amendments

1.5 As a result of recommendations by the Prime Ministers Community-Business Partnership, the Prime Minister announced on 20 August 2001 tax incentives to encourage conservation and philanthropy in Australia. The provision of an income tax deduction is designed to provide an incentive for land owners and certain deductible gift recipients to enter into covenants to conserve land in perpetuity for the environmental benefit of Australia.

Summary of new law

1.6 Schedule 7 will amend the ITAA 1997 to allow an income tax deduction for land owners entering into perpetual conservation covenants with certain deductible gift recipients. The deduction will be equal to the change in the market value of the land as a direct result of entering into the covenant. The change in the market value of the land immediately before and after the covenant is entered into must be determined by the Commissioner. [Amendment 1, Schedule 7, item 5, section 31-1]

Detailed explanation of new law

1.7 On or after 1 July 2002, taxpayers who enter into certain types of conservation covenants over land they own will be entitled to claim an income tax deduction if certain conditions are met. Lease holders will not be entitled to claim deductions for entering into conservation covenants, regardless of the length of the lease. [Amendment 1, Schedule 7, item 5, subsection 31-5(1)]

What is a conservation covenant?

1.8 A conservation covenant over land is an arrangement or agreement between a land owner and another party that:

•

restricts or prohibits particular activities on the land that could degrade the environmental value of that land [amendment 1, Schedule 7, item 5, paragraph 31-5(5)(a)] ;

•

is permanent and where possible, is registered on the title to the land [amendment 1, Schedule 7, item 5, paragraph 31-5(5)(b)] ; and

•

is either approved in writing by, or is entered into under a program that is approved in writing by, the Minister for the Environment and Heritage [amendment 1, Schedule 7, item 5, paragraph 31-5(5)(c)] .

1.9 To be approved by the Minister for the Environment and Heritage, the covenants must meet the covenanting guidelines issued by Environment Australia.

Conditions for deductions

1.10 There are 5 conditions that must be satisfied before a deduction can be claimed by a landowner for entering into a conservation covenant. [Amendment 1, Schedule 7, item 5, subsection 31-5(2)]

Condition 1 - perpetual covenants

1.11 The covenant entered into must be perpetual; that is, it must continue indefinitely [amendment 1, Schedule 7, item 5, paragraph 31-5(2)(a)] . However, a covenant will be treated as being perpetual even though a Minister of a State or Territory may have power to rescind it [amendment 1, Schedule 7, item 5, subsection 31-5(4)] . The intention is to provide deductions only for conservation covenants that permanently affix to the land and not for conservation covenants that apply for limited periods of time, or may otherwise be rescinded.

Condition 2 - no consideration

1.12 A deduction for a conservation covenant will only be available where the covenant is entered into by the land owner without consideration. The land owner must not receive any money, property or other significant benefit in return for entering into the covenant with the recipient. This is consistent with the taxation treatment given to taxpayers who donate gifts of money or property to deductible gift recipients. [Amendment 1, Schedule 7, item 5, paragraph 31-5(2)(b)]

Condition 3 - decrease in market value of land

1.13 The market value of the land must decrease as a result of the landowner entering into the covenant. Should the market value of the land increase as a result of a covenant being placed upon the land, it is not appropriate to allow a deduction since the landowner has not made a loss. [Amendment 1, Schedule 7, item 5, paragraph 31-5(2)(c)]

Condition 4 - de minimis rule

1.14 To ensure consistent treatment with property donations in Division 30 of the ITAA 1997, at least one of the following must apply:

•

as a result of entering into the covenant over the land, the change in the market value of the land must be more than $5,000; or

•

the covenant must be entered into within 12 months of the land being acquired.

[Amendment 1, Schedule 7, item 5, paragraph 31-5(2)(d)]

1.15 The date of acquisition of the land is the date that the land owner enters into a contract to acquire the land. This is consistent with the date of acquisition for CGT purposes.

Condition 5 - recipient of covenant

1.16 The covenant must be entered into with a fund, authority or institution that satisfies the requirements of section 31-10 [amendment 1, Schedule 7, item 5, paragraph 31-5(2)(e)] . Section 31-10 requires that the fund, authority or institution:

•

must be covered by an item in any of the tables in Subdivision 30-B and must meet the conditions specified in that table item; or

•

must be a public fund, or a prescribed private fund, established under a will or instrument of trust solely for the purpose of:

-

providing money, property or benefits to a fund, authority or institution listed in Subdivision 30-B and for any of the purposes listed in Subdivision 30-B that covers the fund, authority or institution; or

-

establishing such a fund, authority or institution.

[Amendment 1, Schedule 7, item 5, subsection 31-10(1)]

1.17 Subdivision 30-B lists recipients of deductible gifts either specifically by name or generally by category. If the fund, authority or institution is not listed specifically by name or is not a prescribed private fund, it must also:

•

be in Australia; and

•

satisfy the requirements relating to endorsement of deductible gift recipients contained in section 30-17 of the ITAA 1997.

[Amendment 1, Schedule 7, item 5, subsection 31-10(2)]

Amount of deduction

1.18 The amount of the deduction will be equal to the difference between the market value of the land immediately before the covenant was entered into and the market value of the land immediately after the granting of the covenant. The deduction does not take into account any changes to the value of the land owing to influences other than the granting of the covenant. The value of the land is the market value to the land owner and not the environmental value of the land to the recipient. [Amendment 1, Schedule 7, item 5, subsection 31-5(3)]

1.19 The change in the market value of the land as a result of the conservation covenant must be determined by the Commissioner [amendment 1, Schedule 7, item 5, subsection 31-15(1)] . The Commissioner may charge an amount worked out in accordance with the regulations for making the valuation [amendment 1, Schedule 7, item 5, subsection 31-15(2)] .

1.20 A taxpayer may elect to apportion a deduction for a conservation covenant over a period of up to 5 income years. [Amendment 2, Schedule 8, item 2, Subdivision 30-DE]

Application and transitional provisions

1.21 The amendments apply to conservation covenants entered into on or after 1 July 2002. [Amendment 1, Schedule 7, subitem 15(2)]

Consequential amendments

1.22 An amendment is made to the list of particular kinds of deductions in section 12-5 of the ITAA 1997 to include reference to Division 31 relating to conservation covenants. [Amendment 1, Schedule 7, item 1]

1.23 An amendment is made to paragraph 25-5(1)(d) of the ITAA 1997 to ensure that expenses incurred in obtaining a valuation under new section 31-15 are tax deductible. [Amendment 1, Schedule 7, item 2]

1.24 An amendment is made to ensure that a deduction for a conservation covenant under Division 31 is subject to the limit on deductions under section 26-55 [amendment 1, Schedule 7, item 3, paragraph 26-55(1)(bb)] . However, a taxpayer may elect to apportion the deduction for conservation covenants over a period of up to 5 income years under Subdivision 30-DE [amendment 2, Schedule 8, item 2, Subdivision 30-DE] .

1.25 An amendment is made to section 30-320 to remove the link note as it is no longer required. [Amendment 1, Schedule 7, item 4]

1.26 An amendment is made to subsection 995-1(1) of the ITAA 1997 to insert a definition of conservation covenant. Conservation covenant has the meaning given by subsection 31-5. [Amendment 1, Schedule 7, item 14]

PART 2 - CGT treatment

Context of amendments

1.27 In Treasurers Press Release No. 44 of 15 June 2001, the Government announced amendments to the CGT rules to ensure that land owners who enter into conservation covenants over their land are not disadvantaged compared with taxpayers who sell their land.

1.28 Amendment 1 gives effect to these announcements by inserting CGT event D4 into the tax law.

Summary of new law

1.29 The key features of the proposed measures are:

•

CGT event D4 applies where a conservation covenant is entered into for capital proceeds, or for nil capital proceeds if a deduction is available;

•

part of the cost base of the land is apportioned to the covenant where CGT event D4 happens; and

•

various CGT concessions will apply to the capital gain calculated under CGT event D4.

1.30 The amendments will provide specific CGT treatment to any capital proceeds received on entering into a permanent conservation covenant. The application of the CGT provisions will depend on the terms of the covenant. The application of CGT event D4 is represented in Diagram 1.1.

Diagram 1.1

1.31 Consequential amendments ensure that CGT event D4 operates as intended.

Detailed explanation of new law

Overview of the current CGT treatment of covenants

1.32 The entering into of a covenant involves the creation of a contractual right in another entity. Therefore, covenants are currently taxed under CGT event D1 (section 104-35 of the ITAA 1997).

1.33 The capital proceeds are reduced only by the incidental costs incurred in creating that right, for example, legal fees. This means that almost all of the capital proceeds received for entering into a covenant are taxed as a capital gain.

1.34 Although the CGT event D1 capital gain is recognised when the covenant is entered into, any loss (or gain) in the value of the land as a result of granting the covenant, is only realised on the later sale of the land.

1.35 The asset is created at the time that the covenant is granted. As such, a land owner who acquired their land before 20 September 1985 cannot obtain the pre-CGT exemption. Further, CGT event D1 gains cannot benefit from the CGT discount provisions.

1.36 Where the land covenanted qualifies as an active business asset, eligible businesses can apply the various small business CGT concessions. These concessions reduce (or, in some cases, eliminate) the CGT liability.

1.37 In contrast, land owners who sell their land, or in some instances the timber from the land, are taxed on only the difference between the sale price and the cost base of that asset. The pre-CGT exemption and the CGT discount can apply in addition to the small business CGT concessions.

Overview of the new law

1.38 The new law will ensure similar CGT treatment between selling the land and entering into a permanent conservation covenant. The new law will also encourage land owners to enter into conservation covenants, maintaining and, in some circumstances, enhancing Australias environmental values.

Meaning of a conservation covenant

1.39 A conservation covenant is a covenant that:

•

restricts or prohibits the land owner from certain activities on the land that could degrade the environmental value of the land;

•

is permanent and binding on current and future land owners (by way of a registration on the title to the land where possible); and

•

is approved by the Minister for the Environment and Heritage (including those entered into under a program approved by that Minister).

[Amendment 1, Schedule 7, item 5, subsection 31-5(5)]

Meaning of permanent

1.40 The conservation covenant is required to be permanent. Permanent takes on its ordinary meaning: lasting or being intended to last indefinitely. Programs that have been set up to date may allow the covenant to be rescinded in certain rare situations. In these cases, the conservation covenant may be treated as permanent. [Amendment 1, Schedule 7, item 5, subsection 31-5(5)]

Approved programs

1.41 Where a program is approved by the Minister for the Environment and Heritage, a conservation covenant entered into under that program will receive automatic approval. It is also possible to obtain approval for an individual covenant. For the purposes of the approval criteria, the conservation covenant could target conservation in terms of the natural, historical, cultural, architectural, environmental, heritage or scientific features of the land.

CGT event D4

1.42 The entering into of a conservation covenant is, in a legal sense, the creation of an enforceable right in another entity. The inclusion of CGT event D4 in Subdivision 104-D (bringing into existence a CGT asset) is intended to recognise this legal effect. CGT event D4 also recognises that, economically, the land owner who is creating those rights has suffered some loss in the value of their land by creating the rights.

Criteria for CGT event D4

1.43 CGT event D4 happens when:

•

a land owner enters into a permanent conservation covenant with government bodies, an environmental organisation or a deductible gift recipient; and

•

the land owner has received capital proceeds for entering into the conservation covenant or has received no capital proceeds and is entitled to claim a deduction under Division 31.

1.44 If the land owner has received no capital proceeds, CGT event D4 does not apply unless all of the requirements for the deduction under Division 31 are also satisfied [amendment 1, Schedule 7, item 7, subsection 104-47(6)] . For example, where:

•

a land owner has entered into a conservation covenant for no capital proceeds;

•

the decrease in the value of the land is less than $5,000; and

•

the land has been held for more than 12 months,

the land owner will not be eligible for the deduction, and therefore will not be subject to CGT event D4. In this situation, the land owner will be subject to CGT event D1.

Calculation of cost base of the covenant under CGT event D4

1.45 Where CGT event D4 happens, the land owner will calculate their capital gain by apportioning part of the cost base of the entire land to the covenant and will calculate their capital loss by apportioning part of the reduced cost base of the entire land to the covenant. The calculation of the apportioned cost base is:

cost base of land * (capital proceeds from entering into the coveneant / those capital proceeds plus the market value of the land just after you enter into the covenant)


The calculation of the apportioned reduced cost base is calculated similarly. [Amendment 1, Schedule 7, item 7, subsection 104-47(4)]

1.46 The conservation covenant will affect the value of the entire land. Therefore, in calculating the cost base apportioned to the covenant, the land owner uses the cost base of the entire land even if the covenant specifically states within its terms that the restrictions as to use only apply to part of the land.

1.47 Where the land owner is entitled to a deduction under Division 31, the capital proceeds from the event are equal to the amount that the land owner can deduct under Division 31. [Amendment 1, Schedule 7, item 12, section 116-105]

1.48 CGT event D4 will result in a capital gain equal to the difference between the capital proceeds from the event and the cost base apportioned to the conservation covenant. [Amendment 1, Schedule 7, item 7, subsection 104-47(3)]

1.49 The land owner also reduces the cost base of the entire land by an amount equivalent to the cost base apportioned to the conservation covenant [amendment 1, Schedule 7, item 7, subsection 104-47(5)] . When the land is later sold, any capital gain will be calculated on the difference between the sale price and the remaining cost base of the land.

Other special rules for CGT event D4

1.50 CGT event D4 happens at the time that the land owner enters into a conservation covenant [amendment 1, Schedule 7, item 8, subsection 109-5(2), item D4 in the table] . If the land is used as an active asset of the land owner, the small business concessions may apply to the capital gain.

1.51 A special rule has been inserted into section 115-25 of the ITAA 1997 to clarify that a capital gain made when CGT event D4 happens is a discount capital gain for the purposes of the CGT discount if the land was acquired at least 12 months before entering into the conservation covenant. [Amendment 1, Schedule 7, item 10, subsection 115-25(2), item D4 in the table]

1.52 Any capital gain made when CGT event D4 happens to land acquired before 20 September 1985 is disregarded. [Amendment 1, Schedule 7, item 7, subsection 104-47(7)]

1.53 This rule provides comparable treatment between land owners who enter into conservation covenants and land owners who sell the land, where the land was acquired before 20 September 1985.

Example 1.1

Katy enters into a conservation covenant with a deductible gift recipient for nil consideration. The covenant covers 20% of the land she owns. Katy acquired the land on 17 May 1995 and uses it for carrying on a farming business. For the purposes of the CGT small business concessions, the net value of Katys CGT assets is less than $5 million and the land is an active asset.

Katy uses the following figures to calculate the capital gain made from entering into the covenant:

cost base of the entire land - $600,000

market value of the entire land before the covenant - $1,000,000

market value of the entire land after the covenant - $800,000

Deduction amount that can be claimed is:

market value of the entire land before the covenant	$1,000,000
less the market value of the entire land after the covenant	$800,000
deduction	$200,000

cost base of the covenant

$600,000 * ($200,000 / ($200,000 + $800,000)) = $120,000


The net capital gain is:

capital gain ($200,000 - $120,000)	$80,000
less CGT discount (50%)	$40,000
	$40,000
less 50% small business reduction	$20,000
net capital gain	$20,000

The result for Katy is a deduction of $200,000 and a capital gain of $20,000.

Application and transitional provisions

1.54 Proposed CGT event D4, as announced in the Treasurers Press Release No. 44 of 15 June 2001, has effect for conservation covenants entered into on or after 15 June 2000. This provides concessional taxation treatment to all land owners who have entered into a conservation covenant under the Tasmanian Private Forest Reserve Program. The first of those covenants was signed on 15 June 2000. [Amendment 1, Schedule 7, item 15]

1.55 The proposed income tax deduction amendments will take effect for conservation covenants entered into on or after 1 July 2002 [amendment 1, Schedule 7, item 15] . This means that if the land owner has entered into a conservation covenant for no consideration before 1 July 2002, CGT event D1 will apply.

Consequential amendments

1.56 A new item is added to the table in section 104-5 to summarise CGT event D4, including the time of the event and how to calculate a capital gain or loss that is made from that event. [Amendment 1, Schedule 7, item 6, section 104-5, item D4 in the table]

1.57 A new item is added to the table in subsection 109-5(2) to specify rules for the circumstances in which, and the time at which, the CGT asset is acquired. [Amendment 1, Schedule 7, item 8, subsection 109-5(2), item D4 in the table]

1.58 A new item is added to the table in section 112-45 to describe which elements of the lands cost base or reduced cost base are affected when CGT event D4 happens. [Amendment 1, Schedule 7, item 9, subsection 112-45, item D4 in the table]

1.59 A new item is added to the table in section 116-25 to describe the capital proceeds rules, modifications and special rules that apply when CGT event D4 happens. [Amendment 1, Schedule 7, item 11, section 116-25, item D4 in the table]

1.60 A new item is added to the table in section 136-10 to identify when a non-resident makes a capital gain or capital loss from CGT event D4 happening to land in Australia. [Amendment 1, Schedule 7, item 13, section 136-10, item D4 in the table]

1.61 The definition of conservation covenant is added to the dictionary in subsection 995-1(1). [Amendment 1, Schedule 7, item 14, definition of conservation covenant in subsection 995-1(1)]

REGULATION IMPACT STATEMENT

Background

Deductions

1.62 The proposed amendment was recommended by the Prime Ministers Community-Business Partnership and is designed to encourage conservation in Australia.

1.63 This amendment complements recently announced changes to the CGT rules which ensure that land owners who receive consideration in return for setting aside all or part of their land for conservation are not disadvantaged compared with land owners who sell their land.

1.64 An associated amendment that allows taxpayers who donate property to deductible gift recipients to apportion their deduction over a period of up to 5 years will also apply to any deduction for a conservation covenant.

Capital gains tax

1.65 CGT operates on an events basis. The taxpayer is required to identify the CGT event that most appropriately applies to their situation. It is proposed that for land owners who enter into a conservation covenant, new CGT event D4 will apply. This would be the case where there is consideration received or no consideration is received and a deduction under the proposed measures can be claimed.

Policy objective

1.66 To provide cost effective incentives for conservation and protection of the environment for the benefit of all Australians.

1.67 The intent of the amendments is to address the taxation treatment for conservation covenants entered into between a land owner and certain deductible gift recipients.

Implementation options

Deductions

1.68 The proposed amendment was announced by the Prime Minister on 20 August 2001. This amendment will apply to certain types of conservation covenants entered into, on or after 1 July 2002. The proposed deduction measure can only be implemented by amending the ITAA 1997.

1.69 The deduction will be available where the change in value of the land resulting from the covenant is more than $5,000, or where the land over which the covenant is granted has been acquired during the last 12 months. The amount of the deduction equals the decline in the market value of the land because of the granting of the covenant. The AVO, on behalf of the Commissioner, will determine these market values for the purposes of determining the amount of the deduction.

1.70 For the covenant to be eligible for deduction it must be granted to certain deductible gift recipients, as set out in items 1 and 2 in the table in section 30-15 of the ITAA 1997. The covenant must be granted in perpetuity and for no consideration, as well as being approved by the Minister for the Environment and Heritage.

Capital gains tax

1.71 The new CGT treatment of permanent conservation covenants was announced in Treasurers Press Release No. 44 of 15 June 2001. The Treasurer announced that the CGT rules were to be amended to ensure that land owners who enter into a conservation covenant are not disadvantaged when compared with land owners who sell the land or, in some cases, the timber off the land.

1.72 The creation of a new CGT event in the ITAA 1997 to deal with most instances of permanent conservation covenants was the only effective option to implement this announcement. Any other approach would require significant changes to other existing CGT events, making the amendments unduly complex and in some situations unworkable.

1.73 In order to come within the scope of proposed CGT event D4, the land owner must enter into a permanent conservation covenant that is approved by the Minister for the Environment and Heritage. A covenant will be approved where it is entered into under an approved program.

1.74 CGT event D4 requires the land owner to apportion part of the cost base of their entire land to the permanent conservation covenant. CGT will be payable on the difference between the capital proceeds received and the cost base apportioned to the permanent conservation covenant. When the land is subsequently sold, any capital gain will be calculated on the difference between the sale price and the remaining cost base of the land.

1.75 CGT event D4 does not apply where no capital proceeds are received and the land owner does not qualify for a deduction. In these circumstances, the land owner will continue to be subject to CGT event D1. As a result, the land owner will have a small capital loss equivalent to the incidental costs of entering into the covenant.

1.76 There is a general principle that where a taxpayer donates property and receives a taxation benefit for that donation, there is a corresponding taxing point. In the cases where a deduction is proposed to be available for donations of covenants, the relevant taxing point is CGT event D4 due to special capital proceeds rules. The application of CGT to covenants provides comparable taxation treatment between granting a conservation covenant over land and making a gift of land. Certain CGT concessions may apply to the capital gain.

Assessment of impacts

Impact group identification

Australians generally

1.77 There will be an increased incentive to participate in conservation programs as a result of the taxation changes. Land owners will be encouraged to maintain areas of environmental significance which will benefit Australia generally.

Taxpayers entering into conservation covenants for the protection of the environment

1.78 Participants in an accredited program, who receive consideration, would usually make a smaller capital gain (or no capital gain if the land was acquired before 20 September 1985) when compared to the current treatment.

1.79 Land owners who enter into a covenant with certain deductible gift recipients for no consideration will (where that donation qualifies for a deduction) be in the same position, for CGT purposes, as those land owners who gift their land for conservation purposes.

Taxpayers entering into covenants and easements generally

1.80 Taxpayers who enter into covenants, other than those conservation covenants which fall under the proposed CGT event D4 (e.g. fixed term covenants), will receive comparatively less concessional taxation treatment. This is because they are currently taxed under CGT event D1. Under CGT event D1, tax is paid on almost the entire amount received under the covenant because the cost base available is limited to the incidental costs incurred in entering into the covenant. Conservation covenants for which no consideration is received but which do not qualify for a deduction will also continue to be taxed under CGT event D1.

1.81 Examples of other transactions that are ineligible for the proposed concessional treatment are profit prendre arrangements and easements created over land. As these agreements often take place under private arrangements, it is difficult to quantify the number of taxpayers involved.

Analysis of costs/benefits

Compliance costs

Generally

1.82 The cost of compliance for taxpayers cannot be reliably quantified. Taxpayers may use a variety of means to familiarise themselves with the proposed amendments. Therefore, it is difficult to predict which methods taxpayers will use to familiarise themselves with the amendments. An outline of the possible actions that could be taken by taxpayers to familiarise themselves and comply with the proposed amendments is outlined in paragraphs 1.70 to 1.75.

1.83 Taxpayers are encouraged to obtain advice as to the taxation implications of entering into the conservation covenant. This would not increase compliance costs because this is standard information given to the taxpayer when these types of programs are set up.

1.84 As the system for approval is not yet determined, the cost of application for taxpayers cannot be quantified. Possible costs that may be incurred by the applicant for approval include getting advice in relation to conservation covenants, producing supporting documents for the application and providing participants in the program with further information about whether or not the program is an accredited program for tax purposes.

1.85 The taxpayer is generally required to keep records relating to tax affairs for 5 years, therefore, the taxpayers compliance costs in this respect will not change.

Deductions

1.86 In order to determine the amount of the deduction, taxpayers will be required to apply to the AVO for a valuation of the change in the value of land immediately before and after entering into the covenant. The AVO currently charge an hourly rate of $162. The valuation costs will be tax deductible to the taxpayer.

1.87 Funds, authorities or institutions may incur compliance costs in applying to the ATO to become registered as a deductible gift recipient.

Capital gains tax

1.88 The cost of familiarisation for this option is discussed in paragraphs 1.88 to 1.90.

1.89 Obtaining materials through the ATO or other tax services on the measure. These materials are available through the ATO website and from the various ATO shop fronts and enquiries helpline. The ATO materials are free of charge, so there is only a time cost for the taxpayer.

1.90 Raising the issue with their tax adviser when lodging their yearly return. As the CGT liability or income tax deduction must be included in the taxpayers tax return of the year in which the covenant is entered into, this discussion would take place either when the covenant is entered into, or during the taxpayers scheduled annual appointment with the tax adviser to lodge their return.

1.91 Taxpayers who lodge their returns using TaxPack may need to obtain tax advice to determine how the proposed measure will affect their particular circumstances. The number of taxpayers that will need to incur this additional cost will be few, as it is anticipated that most of those taxpayers who are affected by these amendments will already have tax advisers.

1.92 Under the proposed amendments the taxpayer is required to apportion the cost base on a reasonable basis (when applying an apportionment formula). The taxpayer is not required to have a formal valuation done for CGT purposes. Any valuation and apportionment costs that are incurred, and are not otherwise deductible, can be included in the lands cost base.

Administrative costs

ATO generally

1.93 The ATO would need to update information booklets that are used by taxpayers in preparing their tax returns. The extent of the changes to the information booklets can only be determined once the law has been enacted.

1.94 ATO staff will have to be trained on the new law to answer queries from taxpayers and tax professionals.

Deductions

1.95 The AVO is a commercial business line of the ATO. The application fee, in addition to the fee structure for carrying out a valuation, will provide the AVO with full cost recovery. The AVO hourly rate of $162 represents the cost to provide a complete professional valuation service. This rate incorporates the costs associated with administering and undertaking a valuation, including all fixed and variable costs.

1.96 Where the AVO deems it necessary to review specialist valuations undertaken by third parties, this action will be considered to be an integral part of the valuation process and will be charged in accordance with the prescribed fee structure.

Environment Australia

1.97 Environment Australia will incur an up-front cost of setting up a register and ongoing costs in relation to:

•

maintaining the register;

•

analysing applications for accreditation and advising the Minister for the Environment and Heritage as to each submission;

•

setting up database maintenance and management of the accreditation process; and

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ensuring that relevant approved schemes remain appropriately targeted and managed.

Revenue costs

1.98 The proposed amendment to provide an income tax deduction will produce a small cost to revenue estimated at less than $1 million per year.

1.99 The financial impact of the CGT treatment for covenants entered into for consideration (Treasurers Press Release No. 44 of 15 June 2001) is $2.3 million over 4 income years, starting in the 2000-2001 income year.

Benefits

1.100 Conservation covenants are generally considered to be a highly cost effective way to protect the environment. By placing a conservation covenant over certain areas of land, the intended effect is to protect and manage natural values of the land in perpetuity. There are a number of benefits to the community flowing from these programs, including protecting areas of high conservation value.

1.101 The proposed income tax deduction amendment will beneficially affect land owners who enter into conservation covenants, with certain deductible gift recipients in a way that meets the conservation covenant guidelines determined by the Minister for the Environment and Heritage. The land owners will be able to claim a deduction equal to the change in the market value of the land immediately before and after entering into the covenant.

1.102 The benefit of this CGT treatment is that it addresses a belief by taxpayers that there is an inequity in the law. For example, under the Tasmanian Private Forest Reserve Program the amendments will provide neutrality between selling timber from the land and entering into the covenant. The landowner is more likely to agree to covenant if there is neutrality between the uses to which they can put the land.

1.103 Environment Australia will be able to better manage future environmental programs through the accreditation process. Environment Australia would also be in a better position to collect information on the emerging trends in the use of conservation covenants. These benefits are seen as outweighing the administration costs of setting up the register and the revenue costs.

1.104 These amendments will facilitate the wider use of conservation covenants as an effective environmental policy tool. Public institutions do not have to purchase land at market value for conservation purposes, and so can incur considerable costs in conserving the environmental value of that land.

Other issues - consultation

1.105 The Department of Prime Minister and Cabinet, the Department of Finance and Administration, the Department of Agriculture, Fisheries and Forestry Australia, the Department of the Treasury, the ATO, Environment Australia and the Office of Regulation Review have been consulted.

1.106 The proposed amendment was recommended by the taxation working group of the Prime Ministers Community-Business Partnership Taxation Subcommittee. The Community-Business Partnerships are a social coalition between welfare organisations, philanthropic individuals, the government and the business community. Mr David Gonski is the chair of the Taxation Subcommittee.

1.107 The recommendation in relation to the income tax deduction amendments formed part of the review conducted by the taxation working group on the CSIRO report Sustaining the Land.

Conclusion

1.108 The proposed deduction amendment will reflect the policy objective by providing valuable conservation incentives to land owners to enter into conservation covenants over land with certain deductible gift recipients.

1.109 The proposed CGT amendments will provide comparable taxation treatment for those land owners who enter into conservation covenants and those who sell or gift their land. The compliance costs associated with this change cannot be quantified for reasons stated earlier. There will be some administrative costs in relation to the setting up of a conservation covenant register. However, the increased incentive to enter into conservation covenants, thereby maintaining and in some cases enhancing Australias environmental values, will outweigh this short term increase in costs.

Chapter 2 - Spreading deductions for property gifts and conservation covenants

Outline of chapter

2.1 Amendment 2 inserts Schedule 8 to this bill, which will amend the ITAA 1997 to allow the apportionment, over a period of up to 5 income years, of deductions for:

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gifts of property valued at more than $5,000; and

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conservation covenants entered into in perpetuity with deductible gift recipients.

The amendments will apply to deductions for gifts made, and conservation covenants entered into, on or after 1 July 2002.

Context of amendments

2.2 In 1999, the Prime Minister announced that the Government would implement measures proposed by the Prime Ministers Community-Business Partnership to encourage greater corporate and personal philanthropy in Australia. As a result, amendments were made to Division 30 of the ITAA 1997 (which deals with deductions for gifts or contributions) including the insertion of Subdivisions 30-DB, 30-DC and 30-DD. These Subdivisions allow, respectively, the apportionment of deductions for certain cultural, environmental and heritage gifts of property over a period of up to 5 income years.

2.3 On 30 March 2001, the Prime Minister announced that another initiative of the Prime Ministers Community-Business Partnership would be implemented. The new measure will make it more attractive for taxpayers to donate property. Income tax deductions for donations of certain property to all other deductible gift recipients will be able to be spread over a period of up to 5 income years. For example, deductions for certain gifts of property made to health, education, research and welfare recipients will be apportionable under this measure.

2.4 A further announcement was made by the Prime Minister on 20 August 2001 to provide incentives for land owners to enter into conservation covenants. As part of this incentive, the Prime Minister announced that deductions relating to these conservation covenants would also be eligible to be apportioned over a period of up to 5 income years.

Summary of new law

2.5 Schedule 8 to this bill will amend the ITAA 1997 to allow taxpayers to spread deductions for certain gifts of property, or for entering into conservation covenants, over a period of up to 5 income years.

Detailed explanation of new law

Gifts of property

2.6 From 1 July 2002, taxpayers may choose to apportion deductions for certain gifts of property allowed under section 30-15 of the ITAA 1997 over a period of up to 5 income years. [Amendment 2, Schedule 8, item 2, Subdivision 30-DE and section 30-249F]

2.7 Amounts eligible for apportionment must be allowable deductions (under Division 30 of the ITAA 1997) for gifts of property:

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made to a fund, authority or institution that is listed either generally or specifically in Subdivision 30-B (item 1 in the table to section 30-15) [amendment 2, Schedule 8, item 2, subparagraph 30-249G(1)(a)(i)] ; or

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made to a public fund or a prescribed private fund established and maintained under a will or instrument of trust solely for the purpose of:

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providing money, property or benefits to a fund, authority or institution listed in Subdivision 30-B and for any of the purposes listed in Subdivision 30-B that covers the fund, authority or institution; or

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establishing such a fund, authority or institution (item 2 in the table to section 30-15) [amendment 2, Schedule 8, item 2, subparagraph 30-249G(1)(a)(i)] ;

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valued by the Commissioner at more than $5,000 (in accordance with the property valuation procedures set out in section 30-212 of the ITAA 1997) [amendment 2, Schedule 8, item 2, subparagraph 30-249G(1)(a)(ii)] ; and

•

that are not currently apportionable under Subdivision 30-DB (cultural gifts), 30-DC (environmental gifts) or 30-DD (heritage gifts) [amendment 2, Schedule 8, item 2, subparagraph 30-249G(1)(a)(iii)] .

2.8 Under these circumstances, a taxpayer may elect for the allowable deduction to be apportioned over a period of up to 5 income years. The election must be made in writing in the approved form. The Commissioner may require that the approved form sets out the percentage of the deduction to be claimed in each income year. If an election is made, the apportionment will commence in the year in which the gift is made and may cover up to 4 of the immediately following income years. [Amendment 2, Schedule 8, item 2, subsection 30-249G(1)]

2.9 The election must be made before the income tax return is lodged for the income year in which the gift is made. [Amendment 2, Schedule 8, item 2, subsection 30-249G(2)]

2.10 The election may be varied at any time in the approved form. The variation can only apply to the percentage to be deducted in income years for which an income tax return has not been lodged. [Amendment 2, Schedule 8, item 2, subsection 30-249G(4)]

Example 2.1

In the 2002-2003 income year, Rochelle donates a vehicle to a deductible gift recipient. The vehicle is valued by the Commissioner at $7,000. Rochelle decides to spread the deduction over the 5 income years available for the apportionment. The first income year in which she can claim a portion of the deduction is 2002-2003.

Rochelle decides to apportion her deduction for the donation of the vehicle in the following manner.

2002-2003	2003-2004	2004-2005	2005-2006	2006-2007
10%	30%	20%	20%	20%

2.11 As a result of the election, the taxpayer cannot deduct the amount allowable as a deduction under section 30-15 in the income year in which the gift was made [amendment 2, Schedule 8, item 2, subsection 30-249H(2)] . Instead, the taxpayer can deduct the corresponding percentage specified in the election for each of the income years over which the deduction is apportioned as set out in the approved form [amendment 2, Schedule 8, item 2, subsection 30-249H(1)] .

Conservation covenants

2.12 From 1 July 2002, taxpayers may choose to apportion, over a period of up to 5 income years, deductions allowable for entering into certain conservation covenants. [Amendment 2, Schedule 8, item 2, Subdivision 30-DE and section 30-249F]

2.13 A taxpayer entitled to a deduction under Division 31 of the ITAA 1997 for entering into a conservation covenant may make a written election in the approved form to apportion the deduction over the current income year and up to 4 of the immediately following income years. [Amendment 2, Schedule 8, item 2, paragraph 30-249G(b)]

2.14 Division 31 allows a deduction when a taxpayer enters into a conservation covenant over land owned by the taxpayer and when certain conditions are met. [Amendment 1, Schedule 7, item 4, subsection 31-5(2)]

2.15 Conservation covenant is defined in subsection 995-1(1) to have the meaning given by section 31-5 [amendment 1, Schedule 7, item 4] . Subsection 31-5(5) provides that a conservation covenant over land is a covenant that:

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restricts or prohibits certain activities on the land that could degrade the environmental value of the land;

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is permanent and is registered on the title to the land (if registration is possible); and

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is either entered into under a program approved in writing by the Minister for the Environment and Heritage, or is individually approved in writing by the Minister [amendment 1, Schedule 7, item 4, subsection 31-5(5)] .

2.16 The election to apportion the deduction must be made before the income tax return is lodged for the income year in which the conservation covenant is entered into. [Amendment 2, Schedule 8, item 2, subsection 30-249G(2)]

2.17 The taxpayer must give a copy of the election to the Environment Secretary before lodging the income tax return for the year in which the covenant is entered into [amendment 2, Schedule 8, item 2, subsection 30-249G(3)] . Environment Secretary is defined in subsection 995-1(1) to mean the Secretary of the Department that administers the Environment Protection and Biodiversity Conservation Act 1999.

2.18 The election may be varied at any time in the approved form. The variation can only apply to the percentage to be deducted in income years for which an income tax return has not been lodged. [Amendment 2, Schedule 8, item 2, subsection 30-249G(4)]

2.19 A copy of the variation must be given to the Environment Secretary before the income tax return is lodged for the first income year to which the variation applies. [Amendment 2, Schedule 8, item 2, subsection 30-249G(5)]

Example 2.2

In the 2002-2003 income year, Katy enters into a conservation covenant for which she receives a deduction of $6,500. Katy decides to spread the deduction over 3 income years. The first income year in which she can claim a portion of the deduction is the 2002-2003 income year.

Katy decides to apportion her deduction for the conservation covenant in the following manner.

2002-2003	2003-2004	2004-2005	2005-2006	2006-2007
50%	25%	25%	0%	0%

2.20 As a result of the election, the taxpayer cannot deduct the amount allowable as a deduction under Division 31 in the income year in which the conservation covenant was entered into [amendment 2, Schedule 8, item 2, subsection 30-249H(2)] . Instead, the taxpayer can deduct the corresponding percentage specified in the election for each of the income years over which the deduction is apportioned as set out in the approved form [amendment 2, Schedule 8, item 2, subsection 30-249H(1)] .

Application and transitional provisions

2.21 The amendments apply to gifts made, or conservation covenants entered into, on or after 1 July 2002. [Amendment 2, Schedule 8, item 4]

Consequential amendments

2.22 Subsection 30-5(4B), which provides a guide to Division 30, is amended to include a reference to the apportionment of deductions for gifts under new Subdivision 30-DE, as inserted by this bill. [Amendment 2, Schedule 8, item 1]

2.23 Subsection 30-315(2) contains an index to Division 30 of the ITAA 1997. Item 112AA in the table to subsection 30-315(2) is amended to include a reference to the apportionment of deductions under Subdivision 30-DE. [Amendment 2, Schedule 8, item 3]