House of Representatives

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon. John Howard, M.P.)

Notes on Clauses

Clause 1: Short title etc.

This clause contains the citation of the amending Act and identifies the Income Tax Assessment Act as the Principal Act being amended.

Clause 2: Commencement

Under this clause the amending Act is to come into operation on the day it receives the Royal Assent. But for this clause, the amending Act would, by reason of sub-section 5(1A) of the Acts Interpretation Act 1901, come into operation on the twenty-eighth day after the date of Assent.

Clause 3: Cost of certain shares

Introductory note

This clause is a clarifying measure designed to ensure that an amendment made in 1978 to overcome effects of the decision of the High Court in the case of Curran v. Federal Commissioner of Taxation will be fully effective, as intended, against arrangements that differ in form from the situation considered by the Court in that case.

In the Curran case the High Court held by majority that, in calculating the profit or loss for income tax purposes on the sale of bonus shares and associated original shares by a share trader, a cost equivalent to the amount of the underlying dividend supporting the bonus share issue should be attributed to the bonus shares, the original shares having a cost measured by the amount paid for them. The effect of the decision in that case was to turn a commercial profit of $2,783 into a tax deductible loss of $188,217.

Last year's amendment, which inserted section 6BA into the Principal Act, was designed to ensure that, where it is necessary - typically, in the case of a share trader - to calculate the taxable profit or deductible loss on a sale of shares following a non-taxable bonus issue, the bonus shares are to be treated as having no independent cost and the cost of the original shares in respect of which the bonus issue is made is to be spread over the original shares and the bonus shares.

There have been contentions that section 6BA as presently drafted does not cover all variations of schemes that have come to be referred to as "Curran schemes". In the particular case considered by the High Court, the bonus shares were issued in satisfaction of a dividend payable out of profits arising from the sale of capital assets. However, "modified" schemes relying on the principle applied by the High Court in the Curran decision but in which the underlying dividend is declared, for example, out of a share premium account created expressly for that purpose, are claimed by some not to be covered by section 6BA.

The argument as to why this is so is a technical one based upon the meaning of the word "dividend" as used in section 6BA. The section applies where a dividend is satisfied by the issue of bonus shares and states expressly that "dividend" includes an amount debited against an amount standing to the credit of a share premium account. However, it is argued by those who contend that the section is not effective of the purpose intended by these words of inclusion that "dividend" takes the general meaning given it by section 6 of the Principal Act and under which an amount debited against a share premium account is not ordinarily to be classed as a dividend. To guard against the eventuality that it is determined by a Court that section 6BA is defective in this way, amendments are proposed by clause 3 with the object of ensuring that section 6BA has its full intended operation. These clarifying amendments are expressed to apply in relation to transactions connected with bonus shares allotted after 3 October 1978, that being the date on which the proposal to introduce the amendments was announced.

It is proposed to achieve the objective by several amendments that will remove references to the word "dividend" and will substitute the more neutral expression "amount". This will mean that, when the section as proposed to be amended is read as a whole, all amounts payable in respect of shares in a company (other than amounts that are effectively subject to tax) and in respect of which further (bonus) shares are issued will be covered by the amended provision, irrespective of whether or not those amounts are technically "dividends".

In general effect, section 6BA means that, in calculating the taxable profit or deductible loss on disposal of any shares or associated bonus shares that did not constitute trading stock of the vendor (e.g., where section 26(a) or section 52 of the Principal Act applies) the cost of the original shares plus any amount actually paid by the shareholder (e.g., on allotment, by way of a premium or for a call) in respect of the bonus shares is to be treated as the cost of the original shares and the bonus shares together. The cost of each of those bonus shares is ascertained by spreading the full cost of the original shares over the original and associated bonus shares and adding to the amount so ascertained in respect of each bonus share any amount actually paid by the taxpayer in respect of each bonus share.

Where the original shares or bonus shares are held as trading stock by a taxpayer and the taxpayer elects under section 31 of the Principal Act to adopt the cost price as the end of year value of those shares, the "cost" value to be taken into account is ascertained by spreading the cost of the original shares over all of the shares and adding, in respect of the bonus shares, any amount actually paid by the taxpayer to the company in respect of those bonus shares. Any deduction allowable in respect of bonus shares acquired as trading stock is limited to the amount, if any, actually paid or payable by the taxpayer under the terms of the bonus share issue. It does not include any part of the cost of the relevant original shares (that cost being independently deductible) or of any amount in satisfaction of which a bonus issue was made.

Because the Courts have yet to determine the merits of claims that the present law is not fully effective against modified "Curran" schemes, sub-clause 3(4) proposes an express declaration that the proposed amendments are to remove doubts and are not to be construed as implying any defect in the existing law.

A further measure is to the effect that should any tax losses from schemes of the kind to which section 6BA is directed be found to exist from any defect found by the Courts in section 6BA, those losses will not be available to be carried forward beyond the 1978-79 income year if those losses are connected with bonus shares allotted after 7 April 1978. It was on that date that the Bill proposing the enactment of section 6BA was introduced into the House of Representatives.

More detailed explanations of the amendments to be effected by clause 3 follow.

Sub-clause (1) will amend sub-section (1) of section 6BA, which sets out the basic conditions under which that section applies.

At present, sub-section (1) requires that, for section 6BA to apply, a dividend (including an amount debited against an amount standing to the credit of a share premium account) be payable to a taxpayer on "original" shares in a company and that the amount of the dividend be satisfied in whole or in part by an issue of "bonus shares" to the taxpayer. A further requirement is that the dividend be applied in payment or part payment of the bonus shares or that the bonus shares be issued in satisfaction of the dividend. As already explained, it is in the reference to a dividend that section 6BA is claimed to be ineffective to bring modified "Curran" schemes within the operation of section 6BA.

Paragraph (a) of sub-clause 3(1) will remove the reference to "dividend (including an amount debited against an amount standing to the credit of a share premium account)" in paragraph (a) of sub-section 6BA(1) of the Principal Act and substitute the neutral expression "an amount". For drafting purposes this amount is to be called the "relevant amount".

Paragraph (b) of sub-clause 3(1) will make a consequential amendment to paragraph (c) of sub-section 6BA(1). The proposed new paragraph (c) will have the same purpose as the existing paragraph (c), but will refer to the "relevant amount" instead of the "dividend".

Paragraph (c) proposes the omission of sub-section 6BA(2) and the insertion of 2 new sub-sections - sub-sections (1A) and (2) - into section 6BA.

Sub-section (1A) is a measure to ensure that a reference in the amended section 6BA to an amount payable by a company will be construed as including a reference to the crediting of an amount by the company in the course of making a bonus share issue.

Proposed sub-section (2) which will replace the existing sub-section 6BA(2) will not alter the purpose of the present law. The redrafted sub-section (2) - which is the operative part of section 6BA - contains references to "relevant amount" in lieu of references to "dividend" and will also ensure that the new sub-section will be read subject to proposed sub-sections (4), (5) and (6). Sub-section (2) will mean that no part of the relevant amount that is satisfied by an issue of bonus shares shall in any way be treated as a cost of the bonus shares.

Paragraph (d) will remove from sub-section 6BA(3) an unnecessary reference to sub-section (4).

Paragraph (e) of sub-clause 3(1) will omit existing sub-section (4) of section 6BA and insert 4 new sub-sections - sub-sections (4), (5), (6) and (7) - that are designed to perform largely the same function as the present sub-section (4) but will set out more clearly the mode of application of this part of section 6BA.

Paragraphs (a) and (b) of existing sub-section 6BA(4) deal with special circumstances where the dividend that is satisfied by the issue of the bonus shares is effectively subject to income tax. (Ordinarily, bonus shares are satisfied by an exempt dividend paid out of capital profits but may also be satisfied by an amount, debited against a share premium account that is not treated as a dividend for the general purposes of the income tax law.) Paragraph (a) of sub-section (4) is designed to have the effect that so much of a dividend satisfied by an issue of bonus shares that is to be included in the assessable income of any taxpayer who is not a resident company or a trustee (whether included directly or through any interposed partnerships or trusts) is excluded from the operation of section 6BA of the Principal Act. Hence, a share trader would be able to attribute to such a bonus share a cost equivalent to the amount of the assessable dividend. Paragraph (b) similarly removes from the operation of section 6BA so much of any dividend that is satisfied by an issue of bonus shares as is included in the net income of a trust estate on which the trustee is liable for income tax.

Proposed new sub-section (4) will, subject to proposed sub-section (6) which deals with the special situation of a resident company, ensure that where part of the relevant amount is included in the assessable income of a taxpayer (other than where the taxpayer is a resident company), sub-section (2) will not operate so as to deny to the taxpayer the right to claim a cost in respect of the bonus shares. It will thus have a comparable effect to the existing sub-section (4) and will, apart from allowing a share trader who is an individual a cost for bonus shares equivalent to the amount of an assessable dividend used to pay them up, allow such a share trader a cost representing a "relevant amount" constituted by an assessable repayment of capital on shares that is used to pay up further shares that are then sold as part of the share trader's trading operations.

Sub-section (5) will extend the principle of sub-section (4) to the case where the taxpayer is a resident company, but only to the extent that a part of the assessable relevant amount is not a dividend for the purposes of the Principal Act. Where a dividend is included in the assessable income of a resident company, there is, by reason of section 46 of the Principal Act, effectively no tax payable on that dividend. The effect of sub-section (5) will be that, to the extent that income tax is effectively payable on the relevant amount, a resident company taxpayer will be entitled to take into account that amount as the cost of the bonus shares in calculating any profit or loss on disposal or in determining the cost of any bonus shares held as trading stock.

Sub-section (6) will provide for the case where the whole or a part of the relevant amount is a dividend for the purposes of the Principal Act and is included in the assessable income of a resident company through one or more partnerships or trust estates. In such a case, by reason of the granting of a rebate under section 46, no tax is effectively payable on any amount attributable to the dividend. Accordingly, the effect of sub-section (4) is to be varied by sub-section (6) in these cases to ensure, for the purpose of ascertaining in relation to a resident company the amount of the net income of any partnership or trust interposed between the company paying the dividend and that resident company, an appropriate result. That is, that where an amount attributable to the dividend is effectively not taxable, that amount is not to be treated as consideration paid for the bonus shares in calculating any taxable profit or deductible loss on disposal of those shares or in determining the cost under section 31 of the Principal Act of any bonus shares that are trading stock on hand at the end of the year of income.

Proposed sub-section (7) will ensure that a reference in sub-sections (4), (5) and (6) to the inclusion of an amount in the assessable income of a taxpayer will be read as including the taking of any such amount into account in calculating a taxable profit or deductible loss (e.g., under section 26(a) or section 52) in the assessment of a taxpayer to whom those sub-sections apply.

Under sub-clause (2) of clause 3, the amendments proposed by sub-clause (1) are, subject to sub-clause (3), to apply to any bonus shares allotted after 3 October 1978, being the date on which the amendments were foreshadowed.

Sub-clause (3) of clause 3 is concerned with the situation that would exist if section 6BA is found to be defective. If that were to happen, losses sought to be created under "Curran"-type schemes could, under sub-section 80(2) of the Principal Act be carried forward as deductions for up to 7 years. The sub-clause is designed to limit the availability of such carry-forward losses beyond the 1978-79 income year where those losses have arisen in connection with bonus shares allotted after 7 April 1978, i.e., the date of introduction of the Bill inserting section 6BA into the Principal Act. It will do this by requiring that so much of any loss as would not be deemed to be a loss for the purposes of section 80 of the Principal Act if the amendments proposed by clause 3 were to be effective in relation to bonus shares allotted after 7 April 1978, will not be an allowable deduction against income derived in the 1979-80 year of income or any subsequent year of income.

Sub-clause (4) of clause 3 declares specifically that the proposed amendments are for the avoidance of doubt in interpreting section 6BA where that section applies to bonus shares that are allotted after 3 October 1978. It further declares that the amendments proposed by clause 3 of this Bill are to be disregarded in interpreting section 6BA in cases where bonus shares are allotted on or before 3 October 1978. In other words, the sub-clause is intended to make it clear that no implication as to the meaning of the existing law may be drawn from the fact that the amendments proposed to section 6BA are being made.

Clause 4: Disposal of trading stock

This clause and clause 5 will amend sections 36 and 36A respectively of the Principal Act for the purpose of countering schemes that have been devised to by-pass anti-tax avoidance amendments made last year to these provisions.

In broad terms, section 36 operates so that, where trading stock forming the whole or part of the assets of a business is disposed of by a taxpayer otherwise than in the ordinary course of carrying on that business, the value of the trading stock is to be included in his assessable income. The value to be so included is ascertained in accordance with sub-section 36(8), and is the market value of the trading stock at the time of disposal. However, where the trading stock consists of shares, debentures or other choses in action, the Commissioner of Taxation is authorised by sub-section 36(9) to fix for taxation purposes a transfer value that is ascertained on a commercially realistic basis having regard to any collateral arrangements or understandings designed to ensure that the true value of such trading stock to the transferee is significantly less than its ostensible sub-section 36(8) market value.

Where section 36 applies so that the value of trading stock disposed of is included in the assessable income of a taxpayer, the person by whom that trading stock is acquired is taken to have acquired it at the same value.

Where a taxpayer transfers to a partnership in which he is a partner, property that constitutes trading stock of the taxpayer, sub-section 36A(1) operates in conjunction with sub-section 36(8) to treat the transfer as having taken place at the market value of the trading stock at the time of transfer unless an election to avoid that result is made in the special circumstances provided for in sub-section 36A(2).

The anti-tax avoidance amendments made to section 36 of the Principal Act in 1978 are limited in their application to trading stock consisting of shares, debentures or other choses in action. Those amendments present no barrier against substitute schemes involving trading stock of other kinds, e.g., precious metals, antiques and fine art, that have been devised to escape the 1978 amendments.

An example of a tax avoidance scheme designed to avoid the 1978 amendments involves the formation of a partnership of a scheme promoter and 19 high income earners ostensibly for the purpose of dealing in commodities such as gold or other precious metals. The promoter contributes a commodity (e.g., gold) with a market value of $500,000 to the partnership capital, but under the overall terms of the arrangement, the transfer from the promoter is at an agreed value of $25,000 as between the partners. The income tax law as outlined above deems the gold to have been acquired by the partnership at market value, which the promoter contends is $500,000 despite the agreement for transfer at a price of $25,000.

The partnership then sells the gold to an associate of the scheme promoter at the pre-arranged price of $30,000, thus making a commercial profit of $5,000. This associate then sells the gold at its true value in such circumstances that it is not liable for Australian tax or is unable to pay any tax assessed because, for example, the company has no assets. The income tax result of the partnership selling for $30,000 gold with a market value of $500,000 (but which in fact only cost it $25,000) is to create a tax loss of $470,000, or $23,500 per partner.

The amendments proposed by clause 4 are designed to close off this avenue for misuse, by arrangements of this kind, of the provisions of section 36. It is proposed to do this by broadening the scope of sub-section 36(9) (which, as explained earlier, is at present limited to shares, debentures and other choses in action) to cover all property that is covered by section 36. This will enable the Commissioner of Taxation to treat any such property as having been disposed of by the transferor and acquired by the transferee at a commercially realistic value that is ascertained having regard to any collateral arrangements or understandings of the kind described that are designed to ensure that the true value of such property to the transferee is substantially less than its claimed market value.

Paragraph (a) of sub-clause 4(1) will amend sub-section 36(9) of the Principal Act to omit the word "prescribed" from the expression "prescribed property". The effect of this will be to broaden the application of sub-section (9) to include any property to which section 36 of the Principal Act applies.

In forming an opinion as to the reasonable value of prescribed property under sub-section 36(9), the Commissioner is required to be guided by the several matters enumerated in paragraphs (a) to (f) inclusive of that sub-section. Each of those matters directs the Commissioner's attention to aspects relevant to various tax avoidance schemes that rely for their efficacy upon the provisions of section 36.

Paragraph (b) of sub-clause 4(1) will insert a further guideline in sub-section 36(9). This new guideline will relate to more recent tax avoidance schemes, an example of which is given in the introductory note to this clause. The new paragraph - paragraph (ca) - will require the Commissioner to have regard to any agreement, arrangement or understanding, whether or not that agreement etc. is enforceable or intended to be enforceable by legal proceedings, which provides for the person or persons acquiring the property from the taxpayer to dispose of that property to another person or persons for a consideration less than the market value of that property at the time when it was acquired by them. It will make no difference whether the property concerned is disposed of back to the taxpayer, to an associate of the taxpayer, to an unassociated person, or to a partnership consisting of persons including the taxpayer.

Paragraph (c) will, as a consequence of the removal from sub-section 36(9) of the expression "prescribed property", omit the definition of "prescribed property" at present contained in sub-section 36(10). A proposed new sub-section (10) is to be inserted as a drafting measure to make it clear that a reference in sub-section 36(9) to "property" will be read as a reference to the kinds of property described in sub-section (1) of section 36, i.e., to property that is trading stock, standing or growing crops, crop-stools, or trees which have been planted and tended for the purposes of sale.

By sub-clause 4(2) the amendments to be effected by sub-clause (1) are to apply in relation to property disposed of by a taxpayer after 24 September 1978, i.e., the date on which the amendments were foreshadowed.

Clause 5: Disposal on change of ownership or interests

This clause proposes some changes to section 36A of the Principal Act which are consequential upon the amendments being effected to section 36 by clause 4.

Sub-section (1) of section 36A operates where the interests in trading stock change on the formation or dissolution of, or a variation of, a partnership and requires that the change in interest be treated as a disposal by the old owners to the new owners. In that situation section 36 would ordinarily operate to treat the disposal as having been made at the market value of the trading stock.

However, a further provision of section 36A, sub-section (2), enables the combined effect of sections 36 and 36A to be avoided and any tax otherwise payable upon a transfer of interests in property to be deferred until the property concerned is finally sold.

As explained in the notes on clause 4, section 36A ordinarily operates in conjunction with sub-section 36(8) to treat a change of interests in property that occurs upon the formation or dissolution of, or a variation of interests in, a partnership as having taken place at the market value of that property at the time of the change. However, sub-section (2) of section 36A enables an election to be made in specified circumstances - broadly where there is a 25 per cent or more continuity of interests in the property before and after the change - the effect of which is to enable the value that would have been taken into account for income tax purposes to apply as if no change had occurred in the ownership of or of interests in the property.

One amendment proposed to be made to section 36A is intended to close-off avenues that may otherwise exist to exploit the election provisions of sub-section 36A(2) in tax avoidance cases where it is appropriate that the provisions of sub-section 36(9), as widened by clause 4, ought to be applied.

A further amendment proposed to be made to section 36A is to place beyond doubt the meaning of a provision inserted in 1977 to overcome certain tax avoidance arrangements that exploited the election provisions of sub-section 36A(2).

As to that, claims have been put forward that the existing law (sub-section 36A(5)) that renders ineffective a notice of election given for the purposes of sub-section 36A(2) where the property concerned consists of shares, debentures or any other choses in action may be read down so that the reference to "any other chose in action" will be read as limited to any other chose in action of a like kind to shares and debentures. This limited construction was never intended when sub-section 36A(5) was inserted into the Principal Act in 1977 and, in order to remove possible doubts as to its meaning, it is proposed that references to shares and debentures be omitted and that the comprehensive expression "any chose in action" be adopted.

Paragraphs (a) and (b) of clause 5 will formally terminate the operation of sub-section 36A(5) with effect from the date of introduction of the Bill into the Parliament. However, proposed sub-section (6) of section 36A to be inserted by paragraph (c) will operate with a similar effect to existing sub-section (5) but will not refer to shares or debentures.

Paragraph (c) will also insert a further new sub-section - sub-section (7) - into section 36A for the purpose of rendering ineffective any election under sub-section 36A(2) in certain cases where the Commissioner is of the opinion that sub-section 36(9) (as proposed to be amended by clause 4) should be applied. An election could, under sub-section (7), be rendered ineffective only where the value of the property as determined under sub-section 36(9) is equal to or less than the value that would have been taken into account in respect of that property at the end of the year of income if no change in the ownership of, or of interests of persons in, that property had taken place and the year of income had ended on the date of the change.

Both proposed sub-sections (6) and (7) will apply in relation to an election under sub-section 36A(2) given after the date of introduction of the Bill into Parliament unless the persons giving the notice establish that the change in ownership or interests occurred on or before that date.

Clause 6: Certain amounts disregarded in ascertaining taxable income

Section 52A was inserted into the Principal Act in 1978 to counter certain tax avoidance schemes that rely upon transactions in shares and other securities for the creation of artificial tax losses, using the general deduction provisions of the income tax law.

In essence, the present section 52A enables the Commissioner of Taxation to reduce the amount of a deduction for expenditure incurred in the course of a tax avoidance scheme involving shares, etc. that would otherwise be an allowable deduction, or would otherwise be taken into account in calculating any taxable profit or deductible loss, to an amount that is commercially realistic in the light of such collateral arrangements as may effectively compensate the taxpayer or an associate for the tax loss generated under the scheme. The Commissioner is required to have regard to the guidelines listed in sub-section 52A(3) which relate to the tax avoidance aspects of the kind of arrangements at which section 52A is directed.

Further complex schemes have been devised that are claimed to avoid the provisions of section 52A because, as presently framed, that section applies only where expenditure is incurred on the purchase or acquisition of prescribed property, i.e., shares, debentures or any other choses in action.

One such scheme involves the issue to a trust at a substantial premium of shares in a company using funds borrowed from a finance company controlled by the scheme's promoter. The beneficiary in the trust is an established share trader. Arrangements are then made for all but a few of the shares to vest in the beneficiary who claims to be entitled to an "imputed deduction" for the value of the shares.

The company, as pre-arranged, then declares on the shares still owned by the trust a substantial dividend out of the share premium account created on issue of the shares. This amount is exempt from tax because, except in special circumstances, amounts paid out of a share premium account are not "dividends" for the purposes of the Principal Act. The dividend is satisfied by an issue of bonus shares which, again as pre-arranged, are transferred to the promoter's finance company in full repayment of the original loan.

Upon the issue of the bonus shares, the original shares become near worthless and the share trader sells these at their reduced value. The difference between the sale price and the "imputed deduction" is claimed to result in a tax loss although, in commercial terms, no loss is suffered.

The amendments proposed by clause 6 are designed to provide a clear counter to arrangements of this kind and also to remove two further doubts that have been expressed in relation to section 52A of the Principal Act.

Paragraph (a) of sub-clause 6(1) will insert two new sub-sections - sub-sections (2A) and (2B) - into section 52A of the Principal Act.

New sub-section (2A) will authorise the Commissioner, having regard to the guidelines contained in sub-section 52A(3), to adjust a deduction claimed for the value of prescribed property (see paragraph (f) of sub-clause (1)) that is an asset of a business carried on by a taxpayer where that prescribed property is acquired after 24 September 1978 (i.e., the date the amendments were foreshadowed). It is a further condition that a deduction would otherwise be allowable to the taxpayer in respect of the value of the prescribed property and that the Commissioner of Taxation considers that it would be unreasonable to fully allow that deduction.

In the example given, the Commissioner would be authorised to adjust any deduction that might otherwise be allowable in respect of the value of the shares vesting in the beneficiary of the trust, so as to eliminate the artificial tax loss. As in the case of other powers contained in the Principal Act that depend for their operation on the opinion of the Commissioner of Taxation, an independent Taxation Board of Review could review a decision of the Commissioner under sub-section (2A) where the taxpayer was dissatisfied with it.

Proposed sub-section (2B) will apply in a similar manner to sub-section (2A) where a taxpayer is engaged in a profit-making undertaking or scheme and acquires prescribed property after 24 September 1978 without incurring any expenditure. Where the value of this property would otherwise be taken into account for the purpose of ascertaining whether a profit or loss has arisen in the course of that scheme, sub-section (2B) will allow the Commissioner of Taxation, where he considers it would be unreasonable to take into account the full value claimed, to make an adjustment that will reflect the commercial realities of the arrangement.

Paragraph (b) of sub-clause (1) will make an amendment to sub-section 52A(3) of the Principal Act that is consequential on the insertion of sub-sections (2A) and (2B) into section 52A. This will ensure that the Commissioner will be required to have regard to the guidelines prescribed in sub-section 52A(3) in forming his opinion for the purposes of the new sub-sections, as he is now required to do when forming an opinion for the purposes of the existing sub-sections (1) and (2) of section 52A.

Paragraph (c) will effect a technical amendment to paragraph (3)(a) of section 52A, which sets out one of the matters the Commissioner is required to consider in forming his opinion under section 52A. Paragraph (3)(a) deals with cases where borrowed moneys are expended in the purchase or acquisition of prescribed property and the amendment will confine a consideration of that matter to schemes where moneys are incurred in purchasing or acquiring the prescribed property (i.e., to cases where sub-section (1) or (2) of section 52A might apply).

Paragraphs (d) and (e) of sub-clause (1) will omit paragraph (g) and insert three new paragraphs - paragraphs (g), (h) and (j) - into sub-section 52A(3). As explained in the introductory note to this clause, sub-section 52A(3) contains guidelines that the Commissioner of Taxation must have regard to in forming his opinion for the purposes of section 52A.

Some schemes designed to avoid the application of section 52A rely upon a pre-arranged reduction in the value of the property acquired, by "watering down" the value of the property. This "watering down" can be achieved in two ways. First, in relation to particular shares by the issue of a substantial number of other shares in the company - in the example given earlier, the bonus shares. Second, by an alteration of rights attaching to either the prescribed property acquired or other prescribed property. In either case, the value of the prescribed property acquired would be substantially reduced, thus enabling the claimed tax loss to arise.

Proposed new paragraph (g) of sub-section 52A(3) will require the Commissioner to have regard to any transaction, operation, undertaking, scheme or arrangement under which the prescribed property is purchased or acquired and which provides as part of that arrangement for other prescribed property to be issued or allotted by a company, whether to the taxpayer or to any other person or persons, and it could reasonably be expected that, as a result of the issue or allotment of that other prescribed property, the value of the prescribed property purchased or acquired by the taxpayer would be substantially reduced.

Proposed paragraph (h) will deal with the case where the value of the prescribed property purchased or acquired by the taxpayer would be substantially reduced as a result of a transaction etc. under which rights attaching to the prescribed property (e.g., rights to a return of capital) or to rights attaching to other prescribed property, irrespective of when that other prescribed property was issued or allotted, are to be varied. Where such a transaction occurs, the Commissioner will be required to have regard to it in determining the commercially-realistic value of the prescribed property purchased or acquired by the taxpayer to be allowed as a deduction.

Paragraph (j) is in identical terms to the existing paragraph (g) of sub-section 52A(3) that is being omitted by paragraph (e) of sub-clause (1).

Paragraph (f) of sub-clause (1) will omit the existing sub-section 52A(4) and substitute a new sub-section (4). This amendment is designed to ensure that section 52A is applicable in relation to all choses in action and is not limited to shares, debentures and choses in action of a like kind to shares and debentures. (An amendment to section 36A of a similar nature is proposed by paragraph (c) of clause 5.) The new sub-section (4) will, by reason of sub-clause 6, apply in relation to prescribed property purchased or acquired after the date of introduction of the Bill into Parliament.

Paragraph (g) will omit the existing sub-section (5) of section 52A and substitute two new sub-sections - sub-sections (4A) and (5).

Proposed sub-section (4A) is a drafting measure to ensure that references in section 52A to the value of prescribed property, in particular references in sub-sections (2A) and (2B), will be read, where necessary, as including references to part of the value of the prescribed property. This will ensure that sub-section (2A) or (2B) cannot be circumvented by arranging for prescribed property to be acquired partly for no consideration and partly by the incurring of expenditure.

New sub-section (5) will replace the existing sub-section (5) and have broadly the same function. Paragraph (a) will re-enact the terms of existing sub-section (5) and means that a person to whom prescribed property is issued or allotted will be taken, for the purposes of the section, to have acquired that prescribed property. Paragraph (b) will mean that a person who receives prescribed property as a bequest or other distribution from a deceased estate will be taken to have acquired that prescribed property, while paragraph (c) will ensure that a person in whom prescribed property vests under the terms of any trust will be taken to have acquired that prescribed property.

Paragraph (h) of sub-clause (1) will insert a further sub-section - sub-section (8) - into section 52A to make it clear that a reference in the section to expenditure incurred by a taxpayer in the purchase or acquisition of prescribed property covers all payments in respect of that property whether incurred at the time of, or after, purchase.

This amendment is being made because it is contended, by some, contrary to what was intended when section 52A was enacted, that call moneys paid on shares are not incurred in the purchase or acquisition of the shares and therefore the existing law is not effective against schemes that employ this technique. Under such schemes, shares are issued paid up to only a nominal extent, e.g., 1 cent, and the balance of the capital and a substantial premium, e.g., $99.99 cents capital and premium, are payable by way of a call. It is contended that the present law applies only to the 1 cent allotment payment and not to the $99.99 call.

Under proposed sub-section (8), references in section 52A to expenditure incurred in the purchase or acquisition of any prescribed property are, where the prescribed property is a share or stock in the capital of a company, to be read as including references to any payment or consideration given in respect of the shares or stock whether that payment or consideration is for a premium or an amount of unpaid capital and irrespective of whether it is for application, allotment or call moneys.

Sub-clause 6(2) will make the amendments to section 52A of the Principal Act, other than the amendment of sub-section (4), effective in relation to prescribed property purchased or acquired after 24 September 1978, which was the date of the announcement foreshadowing the amendments.

Sub-clause (3) of clause 6 will provide for the amendment of sub-section 52A(4) to be effective in relation to prescribed property purchased or acquired after the date of introduction of the Bill.

Clauses 7 to 10: Expenditure recoupment schemes

Introductory note

Subdivision D of Division 3 of Part III of the Principal Act applies to govern the availability of income tax deductions in respect of losses or outgoings incurred under certain tax avoidance schemes. The amendments proposed by clauses 7 to 10 will extend the operation of Subdivision D so that it will apply to prevent avoidance of tax under certain "expenditure recoupment" schemes. These are schemes which provide for expenditure to be incurred as part of a tax avoidance arrangement under which the taxpayer (or an associate) receives a compensatory benefit which, together with the expected tax saving, effectively recoups the taxpayer for the expenditure so that in the final analysis no real deductible loss or outgoing is suffered.

One such scheme has operated to exploit the availability of deductions under section 67A of the Principal Act for expenditure incurred in the discharge of a mortgage. A taxpayer borrows $100,000 from a lender for a term of years at a commercial rate of interest. The taxpayer lends the $100,000 to a third person, again at a commercial rate of interest, the difference between the rate of interest paid and the rate of interest received being negligible. As security for the original loan, the taxpayer gives to the original lender a mortgage over his loan to the third person. The original lender, as pre-arranged, then releases the taxpayer from this security in return for a consideration of $50,000. Finally, an associate of the taxpayer, e.g., his or her spouse, pays $55,000 for the original lender's residual rights under the loan to the taxpayer, which has become an unsecured loan. The taxpayer who receives repayment of $100,000 lent to the third person, would claim to be entitled to a deduction for $50,000 paid in discharging the security, while the original lender would have effectively received a total repayment of $105,000. The taxpayer would, in commercial terms, be able to offset against the $50,000 outlaid in discharging the mortgage, the $45,000 difference between the amount he or she received under the original loan and the amount of $55,000 paid by the associate to obtain an assignment of it. When the taxpayer's tax saving from a deduction for $50,000 is added to that "benefit" of $45,000, the taxpayer (viewing the taxpayer and associate as one) would usually more than recoup the $50,000 outlay.

Further schemes involve a taxpayer entering into and appearing to provide funds to a partnership conducted in such a manner as to incur large "paper" losses from its trading activities. The amount invested by the taxpayer is equivalent to the amount of tax deductible "loss" desired to be secured. In a legally separate transaction, but one bound up with the scheme as a whole, the taxpayer borrows funds equivalent to 85 per cent of his investment in the partnership and becomes liable to interest on these funds at a commercial rate. The difference of 15 per cent between the amount invested and the amount given back in the form of a loan represents the fee payable to the scheme's promoter. The taxpayer later repays the money borrowed and, under the terms of the overall arrangement, becomes entitled to receive, in a nontaxable form, an amount equivalent to 85 per cent of his share in the expenditure on trading stock (i.e., the amount of his loan) plus the amount of interest paid in respect of the loan.

A taxpayer who entered such a scheme would claim to be entitled to a deduction for a share in the apparent partnership loss and for the interest paid on the loan, while asserting that the amounts received as reimbursement of 85 per cent of the loss and for the interest on the loan are not subject to income tax. However, in practical terms, the reimbursement, plus the tax saving from deduction of the expenditure, more than recoups the taxpayer for his outlays in the form of the amount invested in the partnership and of interest.

Another category of schemes operates to exploit section 67 of the Principal Act which authorises deductions for procuration fees or other expenditures incurred by a taxpayer in borrowing money used for the purpose of producing assessable income. Stated broadly, the deductions are spread over the period of the loan or over five years, whichever is the lesser.

Under one of the complicated schemes developed to exploit this special provision, a promoter of tax avoidance schemes undertakes to arrange a loan of $185,000 for a taxpayer for a period of six months for a purported "procuration fee" of $100,000. The loan of $185,000 is made from a trust controlled by the promoter. It is this fee of $100,000 ($85,000 of which is, as explained below, effectively recouped to the taxpayer) that is claimed to be a deductible expense in terms of section 67 of the Principal Act.

The taxpayer in turn invests the borrowed $185,000 in a second trust which on-lends the money to a company controlled by the first trust. The first trust then lends the taxpayer a further $185,000 for a 30 year term and the initial loan is repaid out of this. The result of the circular loans and repayments effected by "round-robins" of cheques is that the $185,000 liability of the taxpayer to the first trust is matched by the liability of the company controlled by that trust to the second trust which is in turn liable to the taxpayer for that amount. These complex arrangements permit the liabilities in respect of each loan to be forgiven at a future date without adverse consequences for any of the parties. The $100,000 procuration fee is claimed to be payable in respect of the original six months' loan, and therefore to be fully deductible in one income year.

The arrangements are made in such a way that the bulk of the procuration fee is recouped by the taxpayer by the provision of a loan that is never intended to be repaid. This is achieved by the first trust lending to the taxpayer, in addition to the other loans, $85,000 interest-free and nominally repayable at call. However, because the tax avoidance promoter invests the $100,000 procuration fee with that first trust in the form of redeemable units that the trust subsequently redeems for $15,000, the $85,000 loaned to the taxpayer is effectively recouped by the trust with the result that it is then able to forgive the taxpayer's $85,000 liability without any effective loss to itself.

In brief, the taxpayer claims an income tax deduction for a procuration fee of $100,000 in respect of which he outlays only $15,000, which represents the fee payable by him to the promoter of the tax avoidance scheme. In other terms, against the $100,000 expenditure sought to be deducted the taxpayer is effectively recouped an amount of $85,000 and he has also, according to the design of the scheme, a tax saving from a deduction of $100,000.

A further scheme relies on the taxpayer or an associate of the taxpayer having the right, on favourable terms, to acquire property or take an assignment of rights under a contract. In one variant of this scheme, rent is paid to an institution the income of which is exempt from tax. Associated with this is an arrangement under which the taxpayer or an associate has the right to acquire the relevant property for a price that is substantially reduced by reference to the amount of rent that has been paid. Effectively, the payments claimed to be in the nature of rent - a tax deductible expense - are treated by the recipient, and between the parties, as instalments of the capital cost of the property. To the extent that this deductible expense is matched by a reduction in the capital cost of the property, and that "benefit", plus the tax saving from deduction of the rent, exceeds the amount of the rent, the arrangement is one that is within the scope of the proposed measures.

Another area to which the proposed "expenditure recoupment" measures are directed also concerns certain "pre-payment" schemes to which section 82KJ of the Principal Act does not apply. That section operates to deny a deduction for expenditure incurred under schemes of tax avoidance that involve the pre-payment of a deductible loss or outgoing and under which there is a compensatory benefit in the form of rights to acquire property, or to take an assignment of rights, for a consideration that is reduced to take account of the prepayment. If the scheme does not involve a compensatory benefit in this form, section 82KJ would not apply.

Where, however, there is a scheme involving a pre-payment and a compensatory benefit given in a way such as is outlined, in relation to other schemes, earlier in this introductory note, deduction of the expenditure would fall for consideration under the proposed "expenditure recoupment" provisions.

Against this general background, the amendments proposed will operate to deny a deduction for expenditure incurred by a taxpayer in borrowing money, in discharging a mortgage, in the acquisition of trading stock or in respect of interest or rent where, broadly stated -

(a)

that expenditure is incurred after 24 September 1978 as part of a tax avoidance agreement entered into after that date;

(b)

as part of the tax avoidance agreement the taxpayer or an associate obtains, in relation to that expenditure being incurred, a benefit in addition to the benefit in respect of which the expenditure is nominally incurred; and

(c)

the sum of the amount or value of that additional benefit and the amount of the expected tax saving is equal to or greater than the amount of the expenditure.

General plan of the amendments

The amendments proposed to meet this broad objective are contained in a proposed new section 82KL and in provisions to be inserted in section 82KH of the Principal Act.

The first step in a consideration of whether the amendments will apply in a given case will be to determine whether the expenditure is expenditure ordinarily deductible under section 67 or section 67A, or is expenditure otherwise deductible under section 51 in the purchase of trading stock or as interest or rent. That expenditure, if it is not caught by the "pre-payments" section - section 82KJ - is described as "relevant expenditure" in a definition to be inserted in sub-section 82KH(1) of the Principal Act.

Next, it has to be ascertained whether the relevant expenditure is "eligible relevant expenditure" (proposed sub-section 82KH(1F)). Relevant expenditure will fit that description if it is incurred under an agreement that has a purpose, other than a merely incidental purpose, of tax avoidance (existing sub-section 82KH(1) and proposed sub-section 82KH(1A)) and under the tax avoidance agreement the taxpayer or an associate (existing sub-section 82KH(1) and proposed sub-section 82KH(1P)) is to obtain a benefit in addition to the benefits that flow in the ordinary course of events (see proposed sub-paragraphs (1F)(b)(i) and (ii) and proposed sub-section (1G)) from the incurrence of the expenditure sought to be deducted. Proposed sub-sections 82KH(1H) and (1J) deal specifically with additional benefits in the form of acquisition of a creditor's rights under a loan for a consideration less than the amount of the loan and in the form of forgiveness of a debt. For example, in the case of rent, the benefit constituted by the use of the premises concerned and the profits resulting from that use, would not be additional benefits.

If the additional benefits relating to the particular eligible relevant expenditure, when taken together with the "expected tax saving" in respect of that expenditure, is equal to or greater than the expenditure itself then, by proposed sub-section 82KL(1), a deduction is not allowable for the expenditure. The amount of the "expected tax saving" is to be determined primarily under proposed sub-section 82KH(1B), which is to be supplemented by sub-sections (1C), (1D) and (1E). Sub-section (1C) concerns mainly State taxes or rebates (see Income Tax (Arrangements with the States) Act 1978) and sub-sections (1D) and (1E) will govern the calculation of the tax saving where a taxpayer is simultaneously involved in two or more schemes of the kind to which section 82KL is directed.

It may occur that more than one amount of the same type of relevant expenditure is incurred under a particular arrangement - there may be a number of payments in one income year, and payments may extend over a number of years. Proposed sub-sections 82KH(1K) and (1L) will treat these amounts as one amount of relevant expenditure. In that situation the relevant enquiry will be whether the total additional benefits under the scheme that are attributable to that relevant expenditure, plus the total expected tax saving, equal or exceed the total expenditure. If they do, no deduction for the expenditure will be allowable in any of the years concerned. Section 82KL and the provisions governing the calculation of the "expected tax saving" are so structured as to enable the tax saving to be calculated on the basis of the part of the relevant expenditure under the arrangement as affects the assessment for each year concerned. Proposed sub-section 82KL(2) enables the Commissioner of Taxation, in the case of a scheme extending over a number of years, to anticipate the application of the provisions, and sub-section (3) will enable a decision to that effect to be reviewed.

It is common for schemes of the kind to which the proposed measures are directed to be effected through a partnership, the expenditure being incurred by the partnership and the partners sharing in the tax deductible loss sought to be created - see sub-section 92(1) of the Principal Act. The mode of application of the proposed measures in these cases will be to disallow as a deduction to the partnership the relevant expenditure incurred by it if the additional benefits to the partnership, the partners or their associates (see definition of "associate" in sub-section 82KH(1) of the Principal Act) plus the total expected savings of the partners equals or exceeds the partnership's expenditure. In particular, proposed sub-section 82KH(1B) directs the calculation of expected tax saving on the basis of the extent to which the deduction of expenditure to the partnership (the "taxpayer" - see section 90 of the Principal Act) would affect the liability of other persons (the partners).

The proposed legislation is, of course, also structured to be applicable in combinations of the circumstances described.

The following notes explain the proposed measures in more detail.

Clause 7: Interpretation

Clause 7 will insert in section 82KH of the Principal Act a number of definitions and associated interpretational provisions necessary for the operation of proposed new section 82KL. At present, sections 82KH and 82KJ of the Principal Act deal with "pre-payment" schemes of tax avoidance, a feature of which has been that pre-paid expenses are recouped to taxpayers through the acquisition of property on favourable terms. The definitions of "agreement", "tax avoidance agreement" and "associate" contained in section 82KH for purposes of the "pre-payments" legislation will operate also for purposes of proposed section 82KL.

Paragraph (a) of clause 7 will insert in sub-section 82KH(1) a definition of "additional benefit" in relation to an amount of "eligible relevant expenditure" (see proposed sub-section (1F)) that is incurred by a taxpayer. This term is being defined as the additional benefit or the aggregate of the additional benefits (as described in paragraph (b) of sub-section (1F)), obtained by the taxpayer by the incurrence of eligible relevant expenditure in accordance with a tax avoidance agreement, that is a benefit obtained by the taxpayer in addition to the benefit in respect of which eligible relevant expenditure is formally incurred. It is the value of this additional benefit that is added to the tax saving from the eligible relevant expenditure to determine whether section 82KL will apply to disallow a deduction for that expenditure.

Paragraph (b) will insert in sub-section 82KH(1) a definition of "expected tax saving" in relation to an amount of eligible relevant expenditure incurred by a taxpayer. The term is defined to mean the tax saving amount calculated in relation to the eligible relevant expenditure in accordance with proposed new sub-section 82KH(1B) or, where there is more than one tax saving amount in relation to that amount of eligible relevant expenditure, the sum of those tax saving amounts calculated in accordance with sub-section (1B). Broadly, where in respect of a year of income, a person's liability to tax would be decreased if deductions were allowable in respect of the eligible relevant expenditure, that decrease in tax liability is to be treated as a tax saving amount.

As mentioned, the "expected tax saving" definition provides for the case where eligible relevant expenditure incurred could give rise to more than one tax saving amount. For example, the effect of the allowance of a deduction in respect of eligible relevant expenditure incurred by a partnership could be to decrease the liability to tax of the partners. There would also be more than one tax saving amount where the allowance of a deduction in respect of eligible relevant expenditure had the effect of converting a taxable income for a year of income to a loss for that year. A tax saving amount would arise in the year of income in which the expenditure was incurred (because of the effect of the expenditure in reducing to nil what would otherwise be a taxable income) and also in the subsequent year or years of income in which deductions would be allowable in respect of the carry-forward loss created by the incurring of the expenditure.

Paragraph (c) will insert in sub-section 82KH(1) definitions of "relevant expenditure" and "rent". Relevant expenditure in relation to a taxpayer, will mean for purposes of proposed section 82KL -

(a)

expenditure in respect of which a deduction would otherwise be allowable to a taxpayer under section 67 of the Principal Act, i.e., capital expenditure in borrowing money for income producing purposes;

(b)

expenditure in respect of which a deduction would otherwise be allowable to the taxpayer under section 67A of the Principal Act, i.e., expenditure in the discharge of a mortgage;

(c)

a loss or outgoing incurred by a taxpayer in the purchase of trading stock, not being a chose in action, to the extent to which a deduction would otherwise be allowable to the taxpayer under section 51 of the Principal Act;

(d)

a loss or outgoing incurred by a taxpayer in respect of interest to the extent to which a deduction would otherwise be allowable to the taxpayer under section 51; and

(e)

a loss or outgoing incurred by the taxpayer in respect of rent to the extent to which a deduction would otherwise be allowable to the taxpayer under section 51.

If a deduction in respect of the particular expenditure were denied by, e.g., section 82KJ, it would not constitute "relevant expenditure" for purposes of the proposed "expenditure recoupment" provisions.

This definition thus defines those types of expenditure to which the proposed "expenditure recoupment" amendments may apply. As noted, it does not affect the purchase of trading stock that is a chose in action. The purchase of trading stock that is a chose in action as part of tax avoidance arrangements is subject to the provisions of section 52A of the Principal Act, amendments to which are proposed by clause 6 of this Bill.

Under the definition of "rent" the meaning of the term is restricted specifically to rent incurred in respect of land or premises.

Paragraph (d) of clause 7 will insert fourteen new sub-sections - sub-sections (1A) to (1P) - in section 82KH of the Principal Act as part of the anti-tax avoidance measures being proposed to counter "expenditure recoupment" schemes.

The object of sub-section (1A) is to ensure that, if an agreement, arrangement, understanding, etc., is entered into for a purpose of reducing tax, and that purpose is only incidental to the purposes for which the parties entered into or carried out that agreement etc., - i.e., the agreement, etc. would have been so entered into or so carried out even if there were no such tax advantage to be gained - then that agreement, etc., will not be treated as a tax avoidance agreement for the purposes of the "expenditure recoupment" provisions and it will follow that the proposed new section 82KL will not apply to deny a deduction in respect of the particular amount of relevant expenditure. To this extent, proposed sub-section (1A) will in effect modify the definition of "tax avoidance agreement" in section 82KH.

Sub-section 82KH(1B) will set out how the amount of tax saving from the deduction against income of an amount of eligible relevant expenditure is to be calculated for the purposes of the application of the definition of "expected tax saving" in sub-section 82KH(1).

First, in paragraph (a), where the allowance of deductions in respect of the eligible relevant expenditure would have the effect that the amount of income tax payable by a person in respect of a year of income would be less than if the deductions were not allowed, the resultant reduction in the amount of income tax payable is to be the tax saving amount.

Second, in paragraph (b), where a person who would be liable to pay income tax in respect of a year of income if deductions were not allowed in respect of the eligible relevant expenditure, would not be liable to pay income tax if deductions were to be allowed, the amount of the tax saving in these circumstances will be the amount of income tax payable if the deduction were not allowed.

The calculation of a tax saving amount will apply in relation to the income tax liability of any person whose income tax liabilities would be affected directly or indirectly if a deduction were not allowed in respect of the amount of eligible relevant expenditure. It will include the taxpayer (natural person or company) who incurred the eligible relevant expenditure, a partner in a partnership and a beneficiary in or a trustee of a trust estate.

Proposed new sub-section (1C) will ensure that, in calculating the expected tax saving in relation to an amount of eligible relevant expenditure by a comparison of the income tax liability of a person if deductions were allowed, or were not allowed, in respect of an amount of eligible relevant expenditure, the undistributed income tax provisions of the Principal Act (Division 7) that apply to private companies will not be taken into account, but any State income tax or rebate will be.

Paragraph (a) of sub-section (1C) will exclude undistributed income tax payable by private companies from the calculation of "expected tax saving".

Paragraph (b) will mean that the reference to income tax in new sub-section 82KH(1B) covers both Commonwealth tax and any State income tax payable under a State law that comes within "stage 2" of the tax sharing arrangements between the Commonwealth and the States.

Paragraphs (c) and (d) will correspondingly mean that where a taxpayer is entitled to a State "rebate" under a State law that comes within "stage 2" of the tax sharing arrangements, the term "income tax" in new sub-section 82KH(1B) will be taken to refer to the amount of Commonwealth income tax that would be payable by the person in the varying circumstances set out in that sub-section, as reduced by the amount of the State rebate to which the person would have been entitled if he had been liable to that amount of Commonwealth tax.

Sub-section (1D) of section 82KH will operate where sub-section (1B) is to be applied to calculate tax saving amounts in respect of the same taxpayer in relation to more than one amount of eligible relevant expenditure. By reason of proposed sub-section (1K) different amounts of the same type of relevant expenditure incurred under the one tax avoidance arrangement will be treated as one amount of relevant expenditure for the purposes of sub-section (1D).

A situation to which sub-section (1D) is addressed could occur, for example, where the taxpayer is involved in two or more "expenditure recoupment" arrangements in the same year of income, or where the taxpayer and a partnership of which the taxpayer is a member each enter into separate "expenditure recoupment" arrangements. It could also occur where the allowance of a deduction for eligible relevant expenditure incurred in a year of income would give rise to a carry-forward loss that would be deductible in a later year of income in which an amount of eligible relevant expenditure from another arrangement, and that affects the taxpayer's assessment for that later year, has been incurred.

In these circumstances, sub-section (1D) will require that the tax saving amount to be calculated under sub-section (1B) in respect of each one of those amounts of eligible relevant expenditure be calculated on the assumption that a deduction is not allowable in respect of the other amounts of eligible relevant expenditure. This assumption is, however, governed by the operation of sub-section (1E).

Sub-section (1E) will qualify the operation of sub-section (1D). The effect of sub-section (1E) will be that if, having applied sub-section (1D) in the calculation of the tax saving amounts in respect of, say, two amounts of eligible relevant expenditure (amounts A and B), it is found on the basis of the expected tax savings so determined and the additional benefits in respect of amounts A and B that section 82KL will not operate to disallow a deduction in respect of, say, amount A, then the calculation of the tax saving amount under sub-section (1B) in respect of amount B is to be made on the basis that a deduction is allowable in respect of amount A.

Sub-section (1F) is a key provision and is to the effect that an amount of "relevant expenditure" (as defined in sub-section (1)) incurred by a taxpayer is to be taken to be an amount of "eligible relevant expenditure" for the purposes of proposed section 82KL if -

(a)

the relevant expenditure was incurred after 24 September 1978 as part of a tax avoidance agreement entered into after that date; and

(b)

by reason of the operation of the tax avoidance agreement the taxpayer obtains, in relation to that expenditure being incurred, a benefit or benefits (defined in sub-section (1) as the "additional benefit") in addition both to the benefit in respect of which the expenditure was incurred (see proposed sub-section (1G)) and to any other benefit that might reasonably be expected to result if the benefit in respect of which the expenditure was incurred were obtained otherwise than by reason of a tax avoidance agreement.

The sub-section will mean that a benefit arising from, say, a payment of interest will not be regarded as an additional benefit where it is the direct benefit of the availability for use of the moneys borrowed (sub-paragraph (b)(i)). Nor will the benefit, such as profits, that might reasonably be expected to flow more indirectly - tax saving considerations aside - from the use of the borrowed funds be regarded as an additional benefit (sub-paragraph (b)(ii)).

As explained in the notes on proposed sub-section (1P) certain benefits obtained by an associate of a taxpayer will, for the purposes of these amendments, be taken to be benefits obtained by the taxpayer. Sub-sections (1H), (1J) and (1M) will also affect the operation of paragraph (b) of sub-section (1F).

Sub-section (1G) identifies, for the purposes of sub-section (1F), the direct benefit in respect of which relevant expenditure of the kinds listed in paragraphs (a) to (e) respectively of the definition of "relevant expenditure" in sub-section (1) will be taken to have been incurred. These benefits are -

(a)

in a case of expenditure incurred by a taxpayer in borrowing money - the making available to the taxpayer of the money borrowed;

(b)

in a case where the expenditure was incurred in connection with the discharge of a mortgage - the discharge of the mortgage;

(c)

in a case where the expenditure was incurred in the purchase of trading stock - the acquisition of that trading stock;

(d)

in a case where the expenditure was incurred in respect of interest - the availability to the taxpayer of the money borrowed; and

(e)

in a case where the expenditure was incurred in respect of rent - the use of the property in respect of which the rent was paid.

Sub-section (1H) will ensure that the proposed amendments operate in circumstances such as those described in the introductory note relating to schemes which exploit the deduction under section 67A for expenditure in the discharge of a mortgage. Where, as part of a tax avoidance agreement, a taxpayer has incurred an amount of relevant expenditure and the taxpayer or an associate of the taxpayer acquires from another person the right to recover the amount of a debt owed to that other person, the taxpayer shall, for the purposes of paragraph (b) of sub-section (1F), be deemed to have obtained a benefit under the tax avoidance agreement in relation to that expenditure if, because of the tax avoidance agreement, the consideration (if any) paid or given by the taxpayer or an associate in respect of the acquisition of that right is less than the amount of the debt. The amount or value of the benefit so obtained by the taxpayer is to be the amount by which the debt exceeds the consideration given or paid by the taxpayer or the associate to acquire the debt.

The provision as proposed will guard against attempts to avoid it by the setting up of cross-arrangements under which, for example, a right to recover a debt owed by taxpayer A is acquired by taxpayer B or an associate of B with the right to recover a debt owed by taxpayer B being acquired by taxpayer A or an associate of A.

Sub-section (1J) will ensure that where, by virtue of a tax avoidance agreement, an amount of relevant expenditure was incurred by a taxpayer and in relation to that relevant expenditure being incurred a debt becomes owing by the taxpayer or an associate of the taxpayer to another person, and it is reasonable to expect that the taxpayer or the associate will not be called upon to repay that debt, then, for the purposes of applying paragraph (b) of sub-section (1F), the taxpayer is to be deemed to have obtained a benefit equal to the amount of the debt that will not be re-paid.

Sub-section (1J) will therefore ensure that the "expenditure recoupment" safeguards will operate in circumstances where the effective reimbursement of expenditure incurred by the taxpayer is made by way of a loan that, while ostensibly repayable at call, is never intended to be re-paid. Where sub-section (1J) is applied by the Commissioner and at a later time the debt is in fact re-paid, sub-section 82KL(5) will authorise the amendment of the assessment to allow the relevant deduction.

Proposed sub-section (1K) will operate to ensure that, where two or more amounts of the same class of relevant expenditure, i.e., expenditure of the kind referred to in paragraph (a), (b), (c), (d) or (e) of the definition of "relevant expenditure" in sub-section (1), are incurred by a taxpayer under the same tax avoidance agreement and in respect of the same benefit, those amounts shall be treated as constituting one amount of relevant expenditure. This is part of the plan to look at the total amount of any relevant expenditure incurred by a taxpayer that is the subject of a recoupment arrangement by comparing in respect of each scheme the total amount of that expenditure incurred under the scheme with the total expected tax saving and total additional benefit in respect of that relevant expenditure.

Sub-section (1L) specifies for the purposes of sub-section (1K), circumstances in which two or more amounts of relevant expenditure are to be treated as being incurred in respect of the same benefit. This will be done where two or more amounts are incurred -

(a)

by way of borrowing expenses in respect of the same loan;

(b)

in respect of the discharge of the same mortgage;

(c)

in respect of the purchase of the same trading stock;

(d)

by way of interest in respect of the same loan; or

(e)

by way of rent in respect of the same property.

For example, where a taxpayer makes a number of rental payments in respect of property that is rented over a period of years under the same agreement, the effect of sub-sections (1K) and (1L) will be that the sum of those rental payments will be treated as one amount of relevant expenditure. In these circumstances, the operative provisions of section 82KL may apply in relation to the total rental payments made under the agreement.

Sub-section (1M) ensures for the purposes of the "expenditure recoupment" provisions that a person (whether the taxpayer or an associate) who obtains a benefit by reason of an act, transaction or circumstance that occurs as part of, in connection with, or as a result of a tax avoidance agreement, is to be treated as having obtained that benefit by reason of the tax avoidance agreement.

Sub-section (1N) will ensure that, where it is required to be assumed in the calculation of the "expected tax saving" that no deduction is allowable in respect of an amount of eligible relevant expenditure incurred by a person, and that expenditure was incurred in the purchase of trading stock, it shall also be assumed for purposes of the trading stock provisions of the Principal Act that the cost to that person of that trading stock was nil.

As explained in the notes on proposed sub-section (6) of section 82KL, where section 82KL operates to deny a deduction in respect of expenditure incurred by a taxpayer in the acquisition of trading stock, the cost price of that trading stock in that taxpayer's assessment of income is to be taken to be nil.

The effect of sub-section (1N) of section 82KH will be that, where it is necessary for the purposes of sub-section (1B), or (1D) to determine the tax that would be payable by a person in a year of income if no deduction were allowable in respect of an amount of eligible relevant expenditure incurred in respect of the acquisition of trading stock, that tax payable will be calculated as if the cost price of any of that trading stock that might be on hand at the end of a year of income is nil. This will have the broad effect that any tax saving will be calculated as relating to the years of income during which, having regard to the operation of the trading stock provisions of the Principal Act, the "cost" of acquiring the trading stock is brought to account for income tax purposes.

Sub-section (1P) will ensure that any benefit obtained by an associate of a taxpayer under a tax avoidance agreement by reason of relevant expenditure being incurred by the taxpayer under that tax avoidance agreement shall be treated in the application of the "expenditure recoupment" provisions as a benefit obtained by the taxpayer under that tax avoidance agreement by reason of that expenditure being incurred under that agreement. "Associate" is defined in sub-section 82KH(1) of the Principal Act and refers, broadly, to those persons who by reason of family or business connections might appropriately be regarded as one with the taxpayer. It specifies who is an associate in relation to a natural person, a company, a trustee of a trust estate and a partnership.

Clause 8: Deductions not allowable in respect of certain pre-paid outgoings

Sub-clause (1) of clause 8 proposes an amendment of section 82KJ of the Principal Act that is consequential upon the introduction of the proposed section 82KL.

Section 82KJ operates to deny a deduction for "pre-paid" expenditure incurred under certain tax avoidance arrangements. Proposed section 82KL might also operate in respect of the same arrangements. The effect of the amendment proposed by sub-clause (1) will, however, be to permit the operation of section 82KJ without the need first to determine whether section 82KL might also operate to deny a deduction in respect of that pre-paid expenditure. If section 82KJ operates to deny a deduction, there is then no question of section 82KL also operating in respect of the same expenditure because, by reason of section 82KJ, the deduction in question is not allowable.

Under sub-clause (2), the amendment being made by sub-clause (1) will apply in respect of losses or outgoings incurred after 24 September 1978.

Clause 9: Deduction not allowable in respect of certain recouped expenditure

Clause 9 will insert a new section - section 82KL - in the Principal Act. This is to be the operative provision that will deny a deduction for certain expenditure incurred as part of an "expenditure recoupment" scheme.

Under sub-section (1) of section 82KL a deduction will not be available in respect of an amount of eligible relevant expenditure (see sub-section 82KH(1F)) incurred by a taxpayer where the sum of the amount or value of the additional benefit (see sub-section 82KH(1)) received in relation to that amount of eligible relevant expenditure and the expected tax saving (see sub-section 82KH(1)) in relation to that expenditure is equal to or greater than the amount of the eligible relevant expenditure, i.e., where the amount of the expenditure is recouped to the taxpayer.

Sub-section (2) will operate to deny a deduction in a year of income for expenditure (of a kind referred to in the definition of "relevant expenditure" in sub-section 82KH(1)) incurred by a taxpayer where the Commissioner of Taxation concludes that sub-section 82KL(1) might reasonably be expected, at a later time, to operate with respect to that amount of expenditure. Sub-section 82KL(2) will operate, for example, where it is reasonable to expect that an additional benefit will be received by the taxpayer or an associate in a future year and the effect of taking the amount or value of that additional benefit into account would be that sub-section 82KL(1) would apply. Sub-section (2) will also enable a deduction to be denied in respect of expenditure that is to be incurred over a number of years as soon as it becomes clear that the conditions for the application of sub-section 82KL(1) would be satisfied, and without waiting for every part of the arrangement to come to fruition.

Sub-section (2) would also be relevant in a case where the effect of allowing a deduction in respect of an amount of expenditure incurred by a taxpayer in a year of income would be that the taxpayer would incur a carry-forward loss for that year of income, and the tax saving in respect of that deduction would only emerge in the assessments of later years when the carry-forward loss was offset against the assessable income of those years.

An opinion formed by the Commissioner for the purposes of sub-section (2) will, of course, be subject to the usual rights of objection and review by an independent Taxation Board of Review.

Sub-section (3) will ensure that, if a deduction has not been allowed in a taxpayer's assessment by reason of the Commissioner forming an opinion under sub-section (2) that a particular circumstance will occur at a future date (e.g., the expected receipt of an additional benefit) and that circumstance does not, in the event, occur, the assessment will be amended to allow the deduction.

Sub-section (4) is designed as a safeguard against the operation of section 82KL being deliberately frustrated by arrangements under which, for example, when a partnership is being established under an "expenditure recoupment" scheme, a company associated with the promoter that is not intended to take advantage of any deductions arising under the scheme is included as a partner.

Section 82KL will, as already mentioned, apply to disallow a deduction in respect of an amount of eligible relevant expenditure if the sum of the total expected tax saving and the additional benefit in relation to that expenditure being incurred is equal to or exceeds the amount of that expenditure.

It is possible in the circumstances outlined above that no expected tax saving could be attributed to the corporate partner's share in the scheme where, for example, it goes into liquidation without earning income or there is no prospect of it earning income within any of the seven years within which it must apply its share of any carry-forward partnership losses emerging from the expenditure recoupment scheme.

This could have the effect of reducing the total expected tax saving plus additional benefit below the amount of relevant expenditure concerned, with the result that, by the inclusion of the "no income" partner in the scheme, the other partners in the recoupment scheme would escape the taxation consequences of an intended application of section 82KL to disallow a deduction to the partnership in respect of that amount of relevant expenditure.

Accordingly, where an amount of eligible relevant expenditure is incurred by a partnership in respect of which section 82KL would otherwise not apply, and the Commissioner of Taxation is satisfied that any partner has been introduced into the partnership to so frustrate the operation of section 82KL, sub-section (4) will apply to deny a deduction in respect of that amount of eligible relevant expenditure.

Sub-section (5) provides a similar power of amendment to sub-section (3) in circumstances where a deduction has been disallowed in respect of an amount of eligible relevant expenditure by reason that the taxpayer has been deemed to have obtained a benefit in relation to that expenditure by virtue of the operation of sub-section 82KH(1J). As explained in the notes on that sub-section, a person is to be deemed to have obtained a benefit in relation to an amount of eligible relevant expenditure where a loan is made under circumstances where it is reasonable to expect that the person will not be called upon to repay the debt. Should that debt or a part of that debt subsequently be repaid and the effect of that repayment would be to reduce the amount of a benefit that has been deemed to have been obtained by that person, to an extent that the sum of the tax saving and the amount of that reduced benefit does not equal or exceed the amount of the eligible relevant expenditure that has been disallowed as a deduction by the operation of section 82KL, sub-section (5) will provide authority for the Commissioner to amend the assessment to allow that deduction.

Sub-section (6) ensures that where, by the operation of sub-sections (1), (2) or (4), a deduction is not to be allowable in respect of a loss or outgoing incurred by a taxpayer in the acquisition of trading stock, the cost price of that trading stock for the purposes of the application of Subdivision B of Division 2 of Part III of the Principal Act (i.e., the trading stock provisions of the Principal Act) shall be taken to be nil.

Clause 10: Amendment of assessments

This clause will amend section 170 of the Principal Act which governs the power of the Commissioner of Taxation to amend income tax assessments. Sub-section (10) of section 170 provides that nothing in the section is to prevent the amendment of an assessment at any time for the purposes giving effect to specified sections of the Principal Act.

Clause 10 will insert in sub-section 170(10) a reference to the new section 82KL that is proposed to be inserted by clause 9 of the Bill. As amended, sub-section 170(10) will enable the Commissioner to give effect to that section by amending the assessments of taxpayers at any time. Thus, when facts emerge that justify such a course of action, the Commissioner will be authorised to amend assessments at any time to disallow deductions under sub-section (1), (2) or (4) of section 82KL for expenditure incurred as part of an "expenditure recoupment" scheme.