Second Reading Speech
By the Treasurer, the Hon. John Howard, M.P.This Bill to amend the Income Tax Law ranges over a number of subjects.
Flowing from the 1981-82 budget, it effects considerable improvements in the zone allowances for people in more isolated areas of Australia, and allows a more rapid write-off of plant for use in the iron and steel industry.
In the area of tax-deductible gifts, there are measures to allow deductions for gifts to three Polish relief funds and to certain animal protection societies, as well as some to guard against abuses of the incentives for the arts segment of the gift provisions.
Two groups of amendments of an anti-avoidance nature concern the provisions under which profits from buying and selling property within 12 months are subject to income tax, and the provisions governing the taxing of income derived by trusts.
There are also changes of a more technical kind dealing with medical expenses paid to incorporated practices and overseas living-away-from-home allowances of members of the Defence Force.
Important though each of these changes is, the amendment of major significance in the Bill is that concerning international profit shifting arrangements.
I foreshadowed this change in my speech to the House on 27 May 1981, when I introduced the legislation that is now in place as part IVA of the Income Tax Assessment Act.
I have much pleasuer in now bringing into the Parliament the foreshadowed companion amendments, thus completing a package of general measures that are designed to render ineffectual arrangements that have the purpose or effect of avoiding Australian tax.
The latest amendments will repeal section 136 of the Income Tax Assessment Act, and replace it with revised provisions.
The new provisions will deal comprehensively with the shifting of profits out of Australia, whether by transfer pricing or other means.
The measures in the Bill aim to give clear guidance to the Commissioner of Taxation as to the way in which they are applicable.
However, the variety of situations that occur in practice is such that the revised provisions, like those they re-express, have had to repose broad powers of judgment in the Commissioner of Taxation.
His exercise of these will, of course, be subject to review and appeal in the normal way.
The shifting of profits to minimize or eliminate a taxation liability, while not a new problem, is one that has become increasingly significant in recent years.
The growth of international investment, the relative ease with which money, goods and technology cross international boundaries, improved communications, and the development of a network of tax havens have all served to facilitate profit shifting arrangements by transnational enterprises, both Australian and foreign-based.
Profit shifting through transfer pricing has also become the subject of considerable public discussion in recent years, both in Australia and abroad.
At the international level, it is appropriate to recongnize the valuable work of the organization for economic cooperation and development - the OECD - which has formulated guidelines for dealing with transfer pricing in its various forms.
Since I announced the Government's intention to revise section 136 to deal more effectively with international profit shifting arrangements, the Senate standing Committee on National Resources, in its report on the development of the Bauxite, Alumina and Aluminium Industries, has also commented upon the operation of the existing section and indicated the areas where it considered the section might be strengthened.
I am pleased to inform the House that the proposed measures do in fact include provisions along the lines of those which the Committee considered necessary.
Although complementary to part IVA, the proposed measures are not limited in scope to arrangements that have a dominant tax avoidance purpose.
In that regard, it is important to recognise that an arrangement to shift profits out of Australia may be entered into for a complex mixture of tax and other reasons.
However, as I mentioned in my earlier statement to the House on this matter, the fact that tax saving is not a key purpose of a particular arrangement or transaction is no reason why we, as a nation, should not be in a position to counteract any loss to the Australian revenue inherent in it.
The main requirements for the application of the revised provisions are that a taxpayer has supplied or acquired property or services under an "International Agreement", one or more of the parties to which were not dealing at arm's length with each other, and that the supply or acquisition was at prices other than those that might have been expected in a transaction between independent parties dealing independently, that is, at arm's length.
The term "International Agreement" is broadly defined but will not affect transactions wholly within Australia, where both sides of a transaction are reflected in Australian tax.
Where the Commissioner of Taxation determines that the new provisions should apply, arm's length prices will be substituted for income tax purposes in place of those adopted in the profit shifting arrangements.
The revised provisions, like the existing section 136, will permit the scrutiny of profit shifting arrangements - other than those between separate but related entities - that may be made by a single taxpayer that has business operations in more than one country, for example, a taxpayer with a head office in one country and branch operations in another.
Profit shifting at this level occurs not through actual purchases or sales, but through book entries involving, for example, the invoicing of goods at non-arm's length prices or the charging to accounts of excessive expenses between head office and a branch.
Technically, profit shifting arrangements of this kind involve questions of the source of a taxpayer's income and the extent to which expenditure is incurred in deriving income from a particular source.
The Bill therefore contains provisions which authorise the Commissioner of Taxation to determine these questions by reference to arm's length criteria.
An important feature of the new provisions is that, subject to powers of remission, a statutory penalty will be imposed, equal to 10 per cent per annum of the tax becoming payable by virtue of the revised provisions.
Without that, taxpayers who engage in profit shifting to reduce their Australian tax liabilities would have the "odds to nothing" when they engaged in such arrangements.
These measures, which are to have effect in relation to income derived and expenditure incurred after 27 May 1981, will overcome a number of deficiencies in the existing section 136.
They will, in express terms, bring the Australian income tax law into line with the approach adopted by many other countries and with the provisions already embodied in our double taxation agreements.
Finally, they are, by any standard, a significant legislative response to arrangements that are damaging to the Australian revenue.
Following my budget announcement I gave details of this change on 15 November 1981.
The change follows a careful examination of the zone allowance system in the light of the report of the public inquiry into the system of income tax rebates for people living in more isolated areas.
Under the new arrangements given legal force by the Bill with effect from 1 November 1981, the basic rebates of $216 for zone A and $36 for zone B will not be altered, but the part of the zone rebate that is related to dependants will increase.
It will rise from 25 per cent to 50 per cent of the relevant dependant rebate amounts for zone A and from 4 per cent to 20 per cent for zone B.
A special basic rebate of $750, in lieu of the ordinary basic zone A and zone B rebates, will be available for people residing, or spending the required period of time, in particularly isolated areas in either zone - that is, at places in excess of 250 kilometres by the shortest practicable surface route from the centre of the nearest population centre of 2,500 people or more.
1976 census data will be used to establish the population of centres for the purpose of the special basic rebate.
The situation will be reviewed after 1981 census data becomes available.
Further, the existing test of eligibility for a zone rebate, under which a person must reside or actually be in a zone area for more than half the year of income, will be liberalised in two respects, effective from 1 January 1981.
First, a person who resides or spends time in a zone area for 183 days or more over a period of two consecutive income years, but who does not satisfy the existing test in relation to either income year, is to receive a rebate in the later income year.
Second, a person who resides in a zone area for a continuous period of up to five income years, but who does not satisfy the existing test in the first and last of those income years, will be entitled to a rebate in the last year, provided the period in the first income year combined with that in the last income year exceeds 182 days.
I mention that, to maintain the long-standing relativity between the level of the zone A rebate and that of the rebates available to certain persons serving overseas with a United Nations' armed force and to defence force members serving in certain overseas localities, the dependant component of those rebates is also to be increased from 25 per cent to 50 per cent.
Depreciation of basic Iron or Steel Production Plant
Honourable members may recall that details of this budget measure were announced on 30 October 1981.
As announced, special rates of depreciation, on a prime cost basis, are to be provided for new and second-hand plant used primarily and principally in the production of basic iron and steel products.
The new rate will be 20 per cent except where, under existing law, eligible plant would attract a rate of more than 20 per cent.
In those cases, a 33 1/3 per cent rate will apply.
The new measures will apply to eligible plant that is ordered after 18 August 1981 and before 1 July 1991, and is first used or installed ready for use before 1 July 1992.
Plant constructed by the taxpayer will qualify on the same basis if construction is started within the 18 August 1981 to 1 July 1991 period.
For the purposes of the special depreciation allowances, basic iron and steel products will be, broadly, those products included in the definition used for the purposes of the 1980 report of the industries assistance commission into the iron and steel industry.
In addition, following representations received from the Government of Western Australia, the Government has agreed that sponge iron should also be recognised as a basic iron product for the purposes of the scheme.
As outlined in my 30 October statement, the accelerated rates will apply to direct production plant and also to plant used by the producer within the production premises on certain necessary associated processes.
Road vehicles of a kind ordinarily used to transport persons or deliver goods will not qualify for the accelerated rates.
Amendments proposed by the Bill will further extend the Gift provisions of the income tax law.
These allow deductions for gifts of the value of $2 or more to specified funds, authorities or institutions.
One extension will authorise deductions for gifts made after 5 February 1982 to the Royal Society for the prevention of cruelty to animals and to the equivalent societies in Queensland and the Northern Territory - The Royal Queensland Society for the prevention of cruelty and the Society for the Prevention of cruelty to animals.
The acting treasurer announced this decision on 5 February 1982.
The second will authorise deductions for gifts made to three polish relief appeals.
In a statement on 18 February 1982 the prime Minister announced that gifts made during the current financial year to the help Poland live appeal conducted by the Australian National Committee for relief to Poland would qualify for deduction.
Following representations, the Government has decided that gifts made to the Australian Red Cross Poland Appeal and the world Vision of Australia Poland emergency appeal should similarly qualify.
Still further amendments will modify the operation of the taxation incentives for the Arts scheme.
That scheme authorises deductions under liberalised conditions for gifts of works of art and other cultural property to the Australian fund, a public art gallery, library, or museum or to artbank.
At present, such gifts qualify for deduction irrespective of the time when, or the manner in which, the gifted property was acquired by the donor.
The amount of the deduction available is generally based on the market value of the property at the time the gift was made, determined by reference to the average of two or more valuations obtained from approved valuers.
The first of the modifications proposed to that scheme was foreshadowed in my Statement of 14 October 1981.
That amendment will, in two specified sets of circumstances, apply to gifts made after that date so as to restrict the amount of the deduction to either the value of the property or any amount paid by the donor for the property, whichever is the less.
This restriction will apply, firstly, where the property is donated within 12 months of its acquisition by the donor, and, secondly, where the property was acquired by the donor for the purpose of making the donation, or was acquired subject to an agreement or understanding that the property would be so given away.
This basis of deduction will not, however, apply to gifts of property inherited by the donor. Such gifts will continue to qualify for the market value basis of deduction.
Further amendments cover arrangements for the appointment of valuers under the scheme, by formally placing responsibility for such appointments with the Secretary to the Department of Home Affairs and Environment.
Guidelines for the purpose are being inserted in the law.
Short-term property transactions
I foreshadowed this change in a statement to the House on 10 September 1981.
I said then that section 26AAA of the Income Tax Assessment Act needs to be amended to support the policy of the section that profits made from short-term property transactions are to be subject to income tax.
Section 26AAA requires that the assessable income of a taxpayer include any profit arising from the sale of property purchased within the previous 12 months.
Where a person who owns controlling shares in a company has the company purchase property and, when the property appreciates in value, effectively realises the resulting profit by selling the controlling shares in the interposed company the section does not apply, and there is doubt whether the profit is brought to tax by related provisions of the law.
Similar uncertainties could arise in the event of use of a trust as the vehicle for the purchase and sale of assets within 12 months, or by selling off an interest in property held for less than 12 months through a chain of companies, or through interposed companies, partnerships or trusts.
The Bill deals with these situations, so that a taxpayer's assessable income will clearly include the profit component of the sale price of shares in a private company or an interest in a trust estate or partnership that is attributable to an increase in the value of underlying property purchased within the preceding 12 months. The amendments will apply where the value of the underlying property immediately before the shares or interest are sold is 75 per cent or more of the net worth of the company, trust estate or partnership.
Section 26AAA is to be further amended so as to apply in a related situation where a taxpayer sells property received as part of a distribution in specie by a private company or trustee of a trust estate, the property having been purchased within the preceding 12 months.
When I announced these measures in the Parliament on 10 September 1981 I indicated that they would apply in relation to underlying property purchased after that date, other than trading stock, depreciable plant or property held for resale at a profit.
It has, however, been found necessary to include in the Bill additional safeguarding provisions to prevent taxpayers from being able to exploit a general exclusion of those classes of property.
To the extent that these safeguards depart from the terms of my announcement, the further measures will apply only in relation to underlying property that is purchased after today.
Income of Trust Estate and of Dependent Children
I turn now to the amendments that were foreshadowed by me in a statement of 27 August last year.
The amendments, which are to operate from that date, are designed to clarify the provisions relating to the system for taxing the income of trust estates and of dependent children that was introduced in 1980 in two areas where, it has been claimed, loopholes exist.
In one case, a blatant tax avoidance scheme was developed in reliance upon the alleged deficiency.
The scheme attempts, by the creation of multiple trusts, to exploit the measures adopted in 1980 to free from tax at the maximum personal rate, accumulating trust income in respect of which a beneficiary has a vested and indefeasible interest.
Under those measures, such income is instead taxed to the trustee on behalf of the beneficiary at personal rates of tax, including the zero rate applying (in 1981-82) to the first $4,195 of income.
Under the scheme, it has been contended that each of the multiple trusts has a vested and indefeasible interest in, but is not presently entitled to, a share of the net income of the head trust, and that the measure I have just referred to operates to allow each of the multiple trusts to obtain the benefit of the tax-free threshold.
I might add that it is not accepted that the scheme is effective, but these amendments will modify the relevant provisions of the law, so that such unintended results clearly do not occur.
The other amendment under this head relates to the exemption from the special tax applicable to the income of minors, for income derived by a minor from his or her own employment.
It has been claimed that, because the definition of employment income adopted in the law includes payments made for services rendered, the exemption extends to income that a child receives from a trust estate that derives that income from carrying on a business of providing services performed by its employees.
This claim is contrary to the intention of the law and the amendment will indicate expressly that the exemption from the special tax in respect of employment income that a child beneficiary receives through a trust is applicable only where the beneficiary provides the services.
A related amendment, to apply after today, will clarify the scope of, and the application of safeguards in relation to, the exemption for business income derived by a child from carrying on a business, either alone or in partnership with others, to make it clear that business income includes income from a business of providing services.
At present medical expenses paid to a qualified person are eligible for the general income tax rebate.
The law is to be amended so that medical expenses of the kinds that qualify under the existing provisions will also be rebatable when paid in respect of a professional service provided by a qualified person although the payment itself is made to a corporate, or other unqualified, employer of that person.
The amendment will apply to payments made on or after 1 July 1981 and is in recognition of relaxed rules of professional bodies in permitting the incorporation of medical and other professional practices.
Living-away-from-home Allowances
Finally, a technical change in the law will remove the present exclusion of members of the Defence Force from the operation of the provision which authorises a deduction against the amount of any living-away-from-home allowance that is required to be included in the assessable income of an employee.
The amendment will ensure that allowances in the nature of living-away-from-home allowances received by Defence Force personnel serving overseas continue to be taxed to the same extent as similar allowances received by their civilian counterparts.
Mr Speaker, all these measures are explained in some detail in the Explanatory Memorandum that is being made available to Honourable Members.
In those circumstances, I need do no more at this stage than commend the Bill to the House.