Explanatory Statement

Issued by authority of the Assistant Treasurer and Minister for Financial Services

Income Tax Assessment (1936 Act) Amendment (Period of Review) Regulations 2022

Income Tax Assessment Act 1936

Section 266 of the Income Tax Assessment Act 1936 (the Act) provides that the Governor-General may make regulations prescribing matters required or permitted by the Act to be prescribed, or necessary or convenient to be prescribed for carrying out or giving effect to the Act.

The purpose of the Income Tax Assessment (1936 Act) Amendment (Period of Review) Regulations 2022 (the Amending Regulations) is to amend the Income Tax Assessment (1936 Act) Regulation 2015 (the Regulations) to exclude certain entities with particularly complex tax affairs or significant international tax dealings from a shortened two-year period of review in respect of income tax assessments.

The Treasury Laws Amendment (A Tax Plan for the COVID-19 Economic Recovery) Act 2020 increased access to several small business entity tax concessions by expanding eligibility to include medium business entities (entities with an aggregated turnover of between $10 million and $50 million). This enabled medium business entities to access some concessions that were previously only available to small business entities, including a shortened period of review of two years instead of four years. The shortened period of review is not appropriate for entities with complex affairs or significant international tax dealings; therefore, amendments are required so that a four-year amendment period continues to apply for these entities.

The Amending Regulations amend section 14 of the Regulations to exclude certain entities from a two-year period of review and instead subject specified entities to the standard four-year period of review.

An Exposure Draft of the Amending Regulations and accompanying explanatory materials were released for public consultation for four weeks from 16 August 2022 to 13 September 2022. Nine submissions were received all of which broadly supported the proposed amendments. Despite the general support for the proposed amendments, the majority of submissions expressed views that some of the affected cohort should continue to have a two-year period of review despite their complex circumstances. However, such an approach is not supported by the primary law, nor is it enabled by the policy intent of ensuring that the Commissioner of Taxation has a reasonable amount of time to review highly complex taxpayer affairs. Submissions also suggested providing more certainty to when the period of review would apply to entities that engaged in certain activities. These changes have been incorporated into the Regulations.

Details of the Amending Regulations are set out in Attachment A .

The Act does not specify any conditions that need to be met before the power to make the Amending Regulations may be exercised.

The Amending Regulations are a legislative instrument for the purposes of the Legislation Act 2003. As an amending instrument, the Income Tax Assessment (1936 Act) Amendment (Period of Review) Regulations 2022 is subject to the automatic repeal provisions under section 48A of the Legislation Act 2003.

The Amending Regulations commenced on the day after the instrument is registered on the Federal Register of Legislation. The amendments apply to income years beginning on or after 1 July 2021, where the assessment for that income year is lodged after commencement of the Amending Regulations. The Amending Regulations do not have retrospective application, therefore, section 12(2) of the Legislation Act 2003 is not engaged.

The Office of Best Practice Regulation has assessed the Regulations as having no more than a minor regulatory impact (OBPR Reference Number OBPR22-03175). Accordingly, a Regulation Impact Statement has not been prepared.

A statement of Compatibility with Human Rights is at Attachment B.

ATTACHMENT A

Details of the Income Tax Assessment (1936 Act) Amendment (Period of Review) Regulations 2022

Section 1 - Name of the Regulations

This section provides that the name of the Regulations is the Income Tax Assessment (1936 Act) Amendment (Period of Review) Regulations 2022 (the Amending Regulations).

Section 2 - Commencement

The Amending Regulations commence on the day after the instrument is registered on the Federal Register of Legislation.

Section 3 - Authority

The Amending Regulations are made under the Income Tax Assessment Act 1936 (the Act).

Section 4 - Schedule

This section provides that each instrument that is specified in the Schedules to this instrument will be amended or repealed as set out in the applicable items in the Schedules, and any other item in the Schedules to this instrument has effect according to its terms.

Schedule 1 - Amendments to the Income Tax Assessment (1936 Act) Regulation 2015.

Section 14 of the Income Tax Assessment (1936 Act) Regulation 2015 (the Regulations) prescribes a number of scenarios that result in an entity, that is an individual, a company that is a small or medium business entity or a person acting in the capacity of a trustee of a trust that is a small or medium business entity (the assessed entity), being excluded from the shortened two-year period of review. Where an entity is excluded from the two-year period of review, the Commissioner is permitted to amend an assessment of the relevant entity within the standard four years after the day on which the Commissioner gives notice of the assessment to the entity, unless a longer amendment period applies.

The amendments to section 14 of the Regulations to exclude relevant assessed entities from accessing the shortened two-year period of review where they have particularly complex tax affairs or significant international tax dealings. This will permit the Commissioner to amend an assessment within the standard four-year period of review.

The amendments are intended to ensure there is sufficient time for the Commissioner to gather necessary information to form an accurate decision for relevant assessed entities with complex tax affairs or significant international tax dealings who otherwise accessed the shortened two-year period of review.

The rationale for broadening the existing exclusions from the two-year period of review is that entities with inherently complex scenarios and transactions require additional time to complete a review, regardless of entity type. With limited time to undertake reviews and gather information from foreign revenue authorities, the two-year period of review has potential to result in an increased number of disputes as amended assessments may be issued based on limited or incomplete information. Therefore, the standard four-year period of review is necessary and appropriate for relevant assessed entities with complex tax affairs or significant international tax dealings.

Item 1 and 2: Related party dealings

Item 1 of the Amending Regulations amends paragraph (b) in column 2 of item 1 in section 14 of the Regulations to include an additional condition for transactions between related parties that have the effect of recording at least $200,000 in either assessable income, allowable deductions or from the total capital proceeds from one or more CGT events. The amendment provides a simplified mechanism to apply the four-year period of review when significant transactions between related parties occurs, provided the existing conditions are met.

Item 2 of the Amending Regulations removes the requirement that a four-year period of review only applies where at least one of the related parties already has a four-year period of review. This simplifies the application of the item so that it does not require consideration of whether a related party has a four-year assessment period. Under the item as amended, even if all related parties have a two-year assessment period and the other conditions are satisfied, then a four-year period of review will apply to the relevant assessed entity.

Item 3: Foreign entities

Entities that derive more than $200,000 of their assessable income from foreign sources

Item 3 of the Amending Regulations inserts an additional table item into section 14 of the Regulations to ensure that the standard four-year period of review will apply to certain relevant assessed entities that derive assessable income of at least $200,000 from any source that is not an Australian source.

To prevent structuring arrangements being undertaken by entities to avoid the four-year period of review, the $200,000 threshold is assessed as a combined threshold including the assessable income from the relevant assessed entity and any entity affiliated with or connected with the entity. The affiliate definition is consistent with the meaning in section 328-130 of the Income Tax Assessment Act 1997 (ITAA 1997) and connected with is consistent with the meaning in section 328-125 of the ITAA 1997).

Foreign owned or controlled entities

Item 3 of the Amending Regulations excludes certain relevant assessed entities that are either foreign controlled Australian entities (as defined under sections 820-780 to 820-795 of the ITAA 1997) or non-resident entities at any time during the income year from the shortened two-year period of review. This definition captures Australian companies, trusts and partnerships that are controlled by foreign entities.

Items 4 and 5: Engaging in tax avoidance schemes

Items 4 and 5 of the Amending Regulations amend section 14 of the Regulations to exclude certain relevant assessed entities that engage in schemes captured by either the Diverted Profits Tax (DPT) or Multinational Anti-Avoidance Law (MAAL) from a shortened two-year period of review.

The MAAL and DPT anti-avoidance rules contained in Part IVA of the Act are dependent on fulfilling the principal purpose test of obtaining the scheme benefit rather than a sole or dominant purpose test. The existing exclusions to the shortened two-year period of review in section 170 of the Act relies on the sole or dominant purpose of obtaining a scheme benefit. As a principal purpose does not need to be the sole or dominant purpose for entering a scheme, schemes captured by the MAAL or DPT may not attract the default four-year period of review under the existing qualifications in section 170 of the Act. The addition of these two items in section 14 of the Regulations addresses this gap that the principal purpose test is not fulfilled when entities engage in DPT or MAAL schemes.

Item 6: Specific circumstances

Item 6 of the Amending Regulations inserts three additional table items into section 14 of the Regulations that apply to relevant assessed entities that meet certain conditions or participate in certain activities which are generally complex and warrant a four-year period of review.

Ten or more entities are connected with or are an affiliate of the relevant assessed entity

Certain relevant assessed entities with at least 10 other entities that are connected with or are affiliated with the entity are excluded from a shortened two-year period of review and are subject to a four-year period of review. This intends to capture administratively and financially connected groups of entities. This item will apply if the conditions are met at any point in the assessment year, accounting for changes in structure during the assessment year. Similar with item 3, the 'connected with' and 'affiliate' definitions are consistent with sections 328-125 and 328-130, respectively, of the ITAA 1997.

Research and Development (R&D) tax incentive

Item 6 of the Amending Regulations inserts new table item 11 to clarify that where relevant assessed entities have claimed the R&D tax offset or certain related deductions, recoupments and adjustments, a standard four-year period of review will apply. This accounts for circumstances where an entity has claimed the R&D incentive but after further investigation by the Commissioner it is determined that the entity is not entitled to the amount claimed. Where an entity has not claimed the R&D tax offset, or certain related deductions, recoupments or adjustments the shorter two-year period of review will continue to apply. The reason for this exclusion is because of the R&D tax incentive is jointly administered by the ATO and the Department of Industry Science and Resources (DISR) and inter-governmental collaboration is required to review entitlements to the R&D offset.

This amendment will complement the existing section 355-710 of the ITAA 1997 which provides additional time for the Commissioner to amend an assessment where DISR conducts an investigation of the eligibility of an entity's R&D activities (as opposed to the expenditure resulting in a tax offset) and provides a certificate to the Commissioner within four years.

Capital gains tax (CGT) relief

Entities that claim the following CGT relief are excluded from a shortened two-year period of review.

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The restructure rollover relief claimed under Division 615 of the ITAA 1997 for entities that restructure their company or unit trust's business without any change in economic ownership.

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The demerger relief claimed under Division 125 of the ITAA 1997 that allows a CGT roll-over when original interests are transferred under a demerger and new or replacement interests are received in the demerged entity.

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Rollovers claimed under Subdivision 126-B of the ITAA 1997 relating to CGT asset transfers between two companies or the creation of a CGT asset between companies within the same wholly owned group, where one company is a non-resident. This exclusion is appropriate and consistent with the overall justification for excluding entities with international tax dealings from a shortened two-year period of review. Given at least one of the parties is a foreign resident, the Commissioner must source relevant information from foreign revenue authorities.

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Entities subject to Division 855 of the ITAA 1997, which provides that a foreign resident is to disregard a capital gain or loss in certain circumstances.

Item 7: Application provision

The amendments apply to assessments lodged after the Regulations commence that relate to income years starting on or after 1 July 2021.

ATTACHMENT B

Statement of Compatibility with Human Rights

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

Income Tax Assessment (1936 Act) Amendment (Period of Review) Regulations 2022

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

Overview of the Legislative Instrument

The purpose of the Income Tax Assessment (1936 Act) Amendment (Period of Review) Regulations 2022 (the Amending Regulations) is to amend section 14 of the Income Tax Assessment (1936 Act) Regulation 2015 (the Regulations) to exclude certain entities with particularly complex tax affairs or significant international tax dealings from a shortened two-year period of review in respect of income tax assessments. Specified entities are instead subject to the standard four-year period of review.

Human rights implications

This Legislative Instrument does not engage any of the applicable rights or freedoms.

Conclusion

This Legislative Instrument is compatible with human rights as it does not engage any human rights issues.