MEASURES INTRODUCED IN THE 1997-98 BUDGET

Income Tax

Withholding Tax Arrangements

Explanation

This measure involves changes to the Pay-As-You-Earn (PAYE), Prescribed Payments System (PPS) and the Reportable Payments System (RPS) withholding arrangements that will improve the overall integrity of the tax system and provide compliance cost reductions for many small businesses. These modifications represent a significant first step towards simplifying the range of withholding tax systems imposed on business, with a view to ultimately establishing an efficient, modern interface between the Australian Taxation Office (ATO) and the business taxpaying community. The changes, which relate to the timing and means of payment of income tax amounts withheld by business from payments of salaries, wages and other prescribed income, will result in a net revenue bring forward of $330 million in 1998-99.

For a large number of small businesses with an income tax withholding obligation, the timing of payment of withheld amounts will be relaxed. Arrangements whereby some employers are entitled to remit tax instalment deductions from employees once each quarter will be extended to a further 133,000 employers under the PAYE system and 178,000 businesses with obligations to deduct tax instalments under the PPS and the RPS. The option to remit quarterly, rather than monthly, will result in a reduction of paperwork and compliance costs for these small businesses. This will also result in a revenue deferral of $500 million in 1998-99.

Payments by large withholders are to be made earlier than is currently the case and by electronic means. This will result in a bring forward of remittances such that payments are made within an average time of 7 days from the date deductions are made from salaries, wages and other prescribed income. The revenue bring forward in 1998-99 will be $830 million. Under existing arrangements, most large businesses remit tax instalment deductions to the Commissioner of Taxation twice monthly, either electronically or through paper based systems.

Payment arrangements for other participants in the PAYE, PPS and RPS withholding arrangements will also be aligned. Those businesses which withhold income tax deductions under the PPS and RPS arrangements and which are required to remit deductions made during a month to the ATO by the 14^th day of the following month will be required to remit those deductions instead by the 7^th day of the following month. This is the same date that an employer who deducts tax instalments under the PAYE system is required to remit to the Commissioner of Taxation. This measure will reduce compliance costs by aligning the payment obligations under the PAYE, PPS and RPS systems.

To effect these changes, the Income Tax Assessment Act 1936 will be amended to:

• require large withholders to remit, by electronic means, tax deductions made under the PAYE, PPS and RPS arrangements from payments made on a Saturday, Sunday, Monday or Tuesday by the following Monday and to remit tax deductions made on a Wednesday, Thursday or Friday by the following Thursday;
• define a large withholder as an entity whose combined annual tax deductions under the PAYE, PPS and RPS arrangements exceed $1 million in 1996-97 or any following year. These withholders will remit under the new arrangements for any tax deductions made after 30 June 1998; and
• allow small withholders, whose annual tax deductions under the PAYE, PPS and RPS arrangements do not exceed $25,000 the option to remit tax deductions made after 30 June 1998 on a quarterly basis.

The changes will not alter the scope of the payments covered by existing withholding tax arrangements or change the rates at which tax must be deducted from those payments.

Medicare Levy Low Income Thresholds - 1997-98

Explanation

When the Medicare levy was introduced in 1984, an exemption was provided for low income individuals and families who were eligible for free medical treatment prior to Medicare. The exemption for a single person has a lower income threshold than the exemption for a couple or a single parent. For couples and single parents, the thresholds increase by a set amount per child.

Consistent with the original objective, the Medicare levy low income thresholds for 1997-98 will be increased to $13,389 for individuals and $22,594 for couples and sole parents. The additional threshold for each dependent child is $2,100.

The increases in the individual, couple, and sole parent thresholds are in line with movements in the consumer price index.

Provisional Tax Exemption For Pensioners

Explanation

The Government is announcing the provisional tax exemption thresholds to apply for pensioners in respect of the 1997-98 income year.

Each year new levels of provisional tax exemption thresholds are set for single-rate, partnered-rate and partnered-illness-separated-rate pensioners. Generally, the thresholds for a year of income are the cut-out thresholds for the pensioner rebate (ie the level of taxable income at which the rebate reduces to nil) for the previous year.

Pensioners will not be liable for 1997-98 provisional tax where:

• the 1996-97 taxable income of a single pensioner is less than $21,377;
• the combined taxable income for 1996-97 is less than $33,368 for a pensioner couple receiving the partnered-rate pension; and
• the combined taxable income for 1996-97 is less than $41,116 for a pensioner couple receiving the separated-rate pension (where the pensioners live apart as a result of illness or infirmity).

For the purpose of determining whether a pensioner is eligible for a provisional tax exemption, bonuses received from friendly societies or insurance companies are excluded from taxable income.

Tax Deductibility For Constitutional Convention Election Expenses

Explanation

The Government has decided to allow a limited tax deduction of up to $1,000 for expenses incurred in 1997-98 as a result of contesting election for delegates to the Constitutional Convention. Introducing tax deductibility for Constitutional Convention election expenses will allow candidates to offset some of the costs incurred while campaigning.

The Government estimates that there will be approximately 800 candidates seeking election to the Convention. On the basis of this estimate, the taxation revenue forgone will be up to $400,000 in 1998-99.

Deductibility of donations to the National Nurses Memorial Trust

• The nature of the measure is such that a reliable estimate cannot be provided.

The Government has given in principle approval for donations of $2 or more to the National Nurses Memorial Trust to be tax deductible for a period of two years. After the Trust has satisfied the usual public fund requirements, the Government will announce the starting date for the two year period of deductibility.

Small Business Deregulation Task Force - Pay As You Go Proposal

Explanation

The Report of the Small Business Deregulation Task Force (SBDTF) recommended the introduction of an optional Pay As You Go (PAYG) system to allow small businesses and other provisional taxpayers the option of paying their tax in instalments from current business receipts from their 1998-99 income year. The SBDTF recommended that the instalments be calculated by applying a taxpayer's average tax rate from a previous year to the taxpayer's receipts for each quarter (ie a formula based approach).

The Government undertook to examine the SBDTF's recommendation as part of the 1997-98 Budget deliberations, but noted that an additional payment system would add complexity to the tax system and that the timing of the revenue collections had to be considered. The Australian Taxation Office's subsequent review of the proposal has confirmed that the SBDTF's formula is quite complex when applied to partnership or trust income, dividends or foreign source income, and to situations in which a taxpayer receives income from salary and wages or other sources in addition to business income. The formula could significantly increase taxpayer compliance costs.

The Government will continue to examine options for further improving tax payment arrangements beyond the withholding tax arrangements announced in the Budget.

Conversion of the Commonwealth Rebate for Apprentice Full-Time Training (CRAFT) Tax Expenditure to Outlays

Note: These numbers represent notional gains to revenue arising directly from conversion of this tax expenditure to outlays. They include the gain to revenue from removing the tax exemption of payments and from the additional nominal amount of payments (designed to make recipients no worse off).

Commonwealth financial assistance to employers of apprentices was enhanced in 1977 via taxation exemption under section 23(jc) of the Income Tax Assessment Act 1936 for payments under the Commonwealth Rebate for Apprentice Full-Time Training (CRAFT) scheme. Through CRAFT the Commonwealth contributes to meeting the cost of apprentices. Current payments made under CRAFT which attract the taxation exemption include, for the incentive regime introduced in December 1996, commencement, recommencement, progression and additionality payments and, for previous incentive regimes, commencement, recommencement and completion payments.

The Government has decided to remove the tax exemption of the existing CRAFT Apprentice Training Incentive. To support the Government initiative to increase higher level structured training, the approximate value of the tax expenditure will be returned as a completion payment to 'for profit' employers of Australian Qualifications Framework Level 3 (AQF3) new apprentices. The conversion of the CRAFT tax expenditure to outlays in the 1997-98 Budget and forward estimates removes an anomaly between the taxation treatment of apprenticeship and traineeship incentives and forms part of a refined incentives package which reinstates incentives for large employers. This measure is shown correspondingly as an increase in outlays.

After account is taken of the other elements of the entry level training (ELT) package, and abstracting from timing effects (which reflect the one year lag in tax receipts), the conversion is broadly budget neutral over the medium term.

Conversion to a purely outlays programme will simplify the current ELT arrangements and improve the overall transparency of benefits to the public while clarifying the costs to Government.

The changes will take effect from 1 January 1998, subject to the passage of the necessary tax legislation. While the conversion of the CRAFT tax expenditure to outlays will mean that incentive payments for all apprentices who commence or recommence after 1 January 1998 will be taxable, incentive payments for those apprentices who commenced prior to 1 January 1998 will retain their tax exempt status.

The proposed changes are in line with other reforms to the ELT system and form part of the total cost to the budget of the wider reforms. The changes also address a number of issues raised in the Government's Review of the Impact of Restrictions on Entry Level Training Incentives undertaken by the Allen Group and are consistent with the principles relating to the conversion of tax expenditures outlined in the 1996 National Commission of Audit Report. Details on the outlays aspects of this conversion are presented in the measure titled 'Changes to entry level training employer incentives' described in Part I of this Budget Paper under the Employment, Education, Training and Youth Affairs portfolio.

Trust Losses

Note: The estimates represent the impact on revenue against the forward estimates which are based on the original estimates of the trust loss measures provided in the 1995-96 Budget.

On 10 February 1997, the Government released exposure draft legislation on trust loss measures. After receiving comments and submissions, the Government has decided to modify the draft legislation to restrict its application. The income injection test will not apply where entities and individuals within a family group inject income into a family trust with losses. This modification will have effect from 7.30 pm AEST, 9 May 1995 (the time of the 1995-96 Budget when the trust loss measures were first announced). For a family trust to access this concession, a family trust election must be made under the proposed legislation. The existing transitional rules in the exposure draft, which will allow family trust and interposed entity elections to be effective from times before they are actually made, will continue to have effect.

A modification will also be made to the definition of the 'family of an individual', with effect from 7.30 pm AEST, 13 May 1997, to ensure that the definition is appropriate in the light of the modifications made to the income injection test. The details of this modification are set out below.

The application of the definition of 'benefit' for the purposes of the test will be clarified, as set out below. This change will have effect from 7.30 pm AEST, 9 May 1995.

The income injection test will continue to apply, as set out in the exposure draft legislation, from 7.30 pm AEST, 9 May 1995, to a trust that is not a family trust, and also to a family trust where the relevant outsider, or associate of the outsider, is not a member of the family group. The trust loss measures that address the transfer of ownership or control of loss trusts will continue to apply to all trusts from 7.30 pm AEST, 9 May 1995.

The Government is currently examining other matters raised in representations on the exposure draft legislation and will announce its decisions on those later.

More detail on the modifications to be made to the exposure draft legislation released on 10 February 1997 is set out below.

Modified Definition of Outsider

An outsider to the trust will be a person who is not:

(a) if the trust is a family trust:

• the individual specified in the trust's family trust election and a member of his or her family; or
• a company, partnership or trust (entity) that is a member of the family group of the individual specified in the trust's family trust election, provided the entity is such a member before the scheme referred to in paragraph 270-10(1)(b) of the draft legislation commenced.

(b) in the case of any trust: the trustee of the trust or a person with a fixed entitlement to a share of the income or capital of the trust.

Modified Definition of Family Member

(a) the test individual's spouse;

(b) a child, grandchild, parent, grandparent, brother, sister, nephew or niece of:

(i) the test individual; or

(ii) the test individual's spouse;

Modified Application of the Definition of Benefit

Taxation of Trusts

Explanation

Information gathered by the Australian Taxation Office (ATO) High Wealth Individuals Taskforce has identified the use of complex trust structures for tax avoidance or undue tax minimisation. The Government is concerned to ensure that the taxation provisions relating to trusts deal appropriately with the modern day usage of trusts and do not permit tax avoidance or undue tax minimisation. It will be necessary to review the taxation of trusts accordingly.

Before the review, the Treasury and the ATO will release a discussion paper, outlining relevant tax issues and broad policy options. Public submissions will be invited following the paper's release. The timing of the paper will enable the Government to consider this matter, in the light of submissions received, in the context of the 1998-99 Budget. The Government reserves the right to take earlier legislative action to prevent tax minimisation or avoidance by the use of trusts.

Limited Partnerships

Explanation

The Government has decided to review the current taxation treatment of limited partnerships to ensure that it remains appropriate and to address any unintended consequences arising from the 1992 decision to treat limited partnerships as public companies for tax purposes. An information paper on these issues will be released by the Australian Taxation Office and the Treasury later this year. The Government reserves the right to take earlier legislative action to prevent tax minimisation or avoidance through the use of limited partnerships.

Taxation of Distributions Disguised as Loans from Private Companies

Explanation

Currently, private companies are, in certain circumstances, able to make distributions of realised or unrealised profits that are effectively tax free by structuring them as loans to shareholders rather than as taxable distributions.

The Government has therefore decided to amend the Income Tax Assessment Act 1936 (ITAA) to ensure that tax is payable on distributions from private companies which take the form of loans to shareholders which are not on commercial terms (as described below as 'excluded loans'). Commercial loans with appropriate interest payments and repayments will not be affected by the provisions. In addition, the changes will not affect loans that are fully repaid within the same income year in which the loan was first paid or credited (subject to certain anti-avoidance provisions).

This measure is likely to impact on tax minimisation practices used by some high wealth individuals.

Section 108 of the ITAA will be strengthened so that advances, loans, or the crediting of amounts by private companies to shareholders (and their associates) will be deemed to be an assessable dividend (to the extent that there are realised or unrealised profits in the company) unless they come within a defined class of excluded loans.

Loans deemed to be assessable dividends will be unfrankable but will result in a debit to the company's franking account as if they had been franked, in order to prevent dividend streaming opportunities.

The amended law will also apply to advances, loans, or credits made to unrelated third parties where there is an agreement that the third party will advance, loan, or credit a similar amount to a shareholder, or an associate of a shareholder, of the original lender.

The legislation will specifically cover the forgiveness, by private companies, of debts owed to them by shareholders and their associates. The forgiveness of a debt owed by a shareholder or an associate will be deemed to be a dividend paid to the debtor within the terms of section 108, provided the loan was not itself previously taxed under that section. The forgiveness provisions will apply to both legally enforceable debt forgiveness and any activity which in economic terms amounts to a forgiveness of debt. The amount forgiven will be assessable to the debtor in the year in which the debt is forgiven regardless of the year in which the loan was initially provided. The dividend arising on the forgiveness of a debt by a private company will not be a frankable dividend but will result in a debit to the company's franking account as if it had been franked.

In order to qualify as an excluded loan the loan must satisfy certain conditions, including:

• a requirement that the effective rate of interest per annum payable under the loan is equal to or greater than a benchmark interest rate (this will be the same benchmark rate as applies for fringe benefits tax purposes); and
• the actual term of the loan is not greater than a specified maximum term for the loan; and
• the amount actually repaid in respect of the loan in a year of income is equal to or greater than either the specified minimum yearly repayment, or (in the year of income in which the loan is discharged) the amount of the loan plus any outstanding interest payable in respect of the loan.

An excluded loan will also include any loan which is fully repaid in the same income year in which the loan amount was first paid or credited. Anti-avoidance provisions will be included to ensure this operates appropriately.

A repayment will not be treated as a repayment for the purposes of these provisions if the repayment has been funded by a loan from an associate of the taxpayer making the repayment. The definition of 'associate' will have broadly the same meaning as in subsection 26AAB of the ITAA.

A failure by any party to the loan to comply with any of these terms will result in the full amount of the loan being deemed to be a dividend in the year in which the term or terms are not complied with.

With the exception of the debt forgiveness measure, the measures will apply to loans entered into after the date of introduction of the legislation. A loan is entered into when an amount is actually paid or credited to the shareholder. A new loan will be deemed to have been entered into if the terms of an existing loan are altered (other than through an adjustment to the interest rate that is allowed for by the loan agreement), the period of the loan is extended or the loan is rolled over into another loan. The debt forgiveness measure will apply to any debt forgiven on or after the date of introduction of the legislation.

Measures to Prevent Dividend Streaming

• The measure will protect the revenue base used for the forward estimates, by removing opportunities for significant future expansion of tax minimisation practices. In the absence of the measure, to the extent that the revenue base would not be protected, there would be a significant revenue loss compared to the forward estimates.
• The measure will result in unquantifiable revenue gains to the extent of existing tax minimisation.

The Government has decided to introduce measures to address the unintended usage of franking credits through dividend streaming arrangements. Dividend streaming arrangements involve a company disproportionately directing franked dividends to shareholders who can benefit most from imputation credits.

The underlying principles of the imputation system as introduced in 1987, and as reflected in its affordability, include: first, that tax paid at the company level is in broad terms imputed to shareholders proportionately to their shareholdings; and second, that the benefits of imputation would be available only to the true economic owners of shares, and only to the extent that those taxpayers were able to use the franking credits themselves.

Dividend streaming undermines the first principle by attributing tax paid on behalf of all shareholders to only some of them by allowing the streaming of franking credits to maximise their value to certain shareholders over others. To allow such practices to continue would bring into question the affordability of the imputation system as originally designed.

Amendments to address schemes which undermine the second underlying principle are outlined in 'Measures to prevent trading in franking credits'.

The Income Tax Assessment Act 1936 (ITAA) already contains specific provisions designed to maintain the original objective of the imputation system by preventing dividend streaming. It is clear, however, that these provisions are not wholly effective. The Government intends to introduce amendments to the ITAA to strengthen the existing streaming provisions by:

• providing an anti-avoidance rule targeting dividend streaming, which would apply to arrangements whereby a company streams dividends so as to provide franking credits to shareholders who benefit most in preference to others;
  • this rule will apply to dividends and distributions paid on or after 7.30 pm AEST, 13 May 1997, including those relating to arrangements entered into before that time;
• ensuring that section 45Z operates to treat dividends distributed to beneficial owners of shares which are equivalent to interest on a loan in the same way that dividends to direct owners are treated with respect to the operation of the debt dividend provisions (section 46D of the ITAA);
  • this amendment will apply to capital subscribed to trusts and finance raised on or after 7.30 pm AEST, 13 May 1997, and to the renewal, extension or rollover after that time of existing interests in trusts after the expiry of their present term;
• amending the definition of 'class of share' in the ITAA by providing that a class of shares includes all shares having substantially the same rights;
  • a similar amendment would also apply in relation to interests held in a corporate limited partnership so that they are deemed to be one share class;
  • these amendments will apply to all shares and partnership interests, whether issued before or after 7.30 pm AEST, 13 May 1997, and will apply in relation to franking years commencing after that time.

• As for the anti-avoidance rule targeting dividend streaming, this general anti-avoidance rule will apply to dividends and distributions paid on or after 7.30 pm AEST, 13 May 1997, including those relating to arrangements entered into before that time.

Details of the amendments are set out in a separate Treasurer's Press Release.

Measures to Prevent Trading in Franking Credits

• The measure will protect the revenue base used for the forward estimates, by removing opportunities for significant future expansion of tax minimisation practices. In the absence of the measure, to the extent that the revenue base would not be protected, there would be a significant revenue loss compared to the forward estimates.
• The measure will result in unquantifiable revenue gains to the extent of existing tax minimisation.

The Government has decided to introduce measures to address trading in franking credits and misuse of the intercorporate dividend rebate provided under section 46 of the Income Tax Assessment Act 1936 (ITAA).

The underlying principles of the imputation system as introduced in 1987, and as reflected in its affordability, include: first, that tax paid at the company level is in broad terms imputed to shareholders proportionately to their shareholdings; and second, that the benefits of imputation would be available only to the true economic owners of shares, and only to the extent that those taxpayers were able to use the franking credits themselves.

The amendments to address trading in franking credits and misuse of the intercorporate dividend rebate are designed to restore the second underlying principle of the imputation system and address schemes in which shareholders are able to fully access franking credits without bearing the economic risk of share ownership. In such arrangements, the taxpayer to whom the benefits are transferred generally claims a tax deduction for amounts paid to other taxpayers in relation to the transfer of benefits. This is in addition to the franking rebate received by the shareholder under the existing dividend imputation arrangements. Similar arrangements can be entered into to gain advantages from the intercorporate dividend rebate.

Arrangements that allow franking credits to be transferred, by separating legal ownership from the economic risks of share ownership, undermine this principle by allowing the full value of franking credits to be accessed without bearing the economic risk. To allow such arrangements to continue would bring into question the affordability of the imputation system as originally designed.

Amendments to address schemes which undermine the first underlying principle are outlined in 'Measures to prevent dividend streaming'.

The Government intends to introduce amendments to the ITAA to:

• limit the source of franking credits available for trading by denying franking credits to, and cancelling the existing franking surpluses of, companies that effectively are wholly owned by non-resident shareholders or tax exempt shareholders (including the Commonwealth and State and Territory governments);
  • arrangements will be put in place to ensure that non-resident shareholders in such companies receiving franked dividends will continue to be exempt from dividend withholding tax;
• prevent short-term franking credit trading by denying franking credits and the intercorporate dividend rebate on dividends paid to holders of shares where the taxpayer acquires shares or interests in shares and then disposes of them (or equivalent shares or interests) within 45 days (or 90 days in the case of preference shares) and during this period dividends are payable or the taxpayer enters into a risk-reduction arrangement within 45 (or 90) days of the time of acquisition of the shares or interests;
• prevent longer-term transfer arrangements where franking credits and the intercorporate dividend rebate are received by taxpayers who are not carrying the economic risks and benefits of share ownership by denying franking credits and the intercorporate dividend rebate on dividends where the taxpayer (or an associate) is under an obligation to make related payments with respect to positions in substantially similar or related property; and
• provide for a general anti-avoidance rule against franking credit trading and streaming, to apply to arrangements where one of the purposes (other than an incidental purpose) is to obtain a tax advantage in relation to franking credits.

The general anti-avoidance rule will apply to deny franking credits on dividends and other distributions paid on or after 7.30 pm AEST, 13 May 1997, including those relating to arrangements entered into before the date of announcement.

The measure to prevent companies effectively wholly owned by tax exempt and non-resident shareholders from holding and accruing franking credits will apply from 7.30 pm AEST, 13 May 1997, subject to transitional provisions. Those provisions include transitional arrangements which may apply to Commonwealth-owned companies at the time of sale. The remaining rules will apply to dividends and other distributions paid on shares and interests acquired, and arrangements entered into, on or after that time.

Details of the measure are set out in a separate Treasurer's Press Release.

National Crime Authority Investigations

Explanation

The National Crime Authority (NCA) has received funding to extend its investigations of complex money laundering and tax evasion schemes. (A description of the outlays funding for the NCA is outlined in the measure titled 'Additional funding to target serious and large scale fraud and related crime against the Commonwealth' in Part I of this Budget Paper.) This is expected to lead to increased income tax revenue of $30 million in both 1998-99 and 1999-2000 from successfully combating serious cases of tax evasion. It is also anticipated that these investigations will result in increases in recoveries of the proceeds of crime estimated at $10 million in both 1998-99 and 1999-2000.

Introduction of the Infrastructure Borrowings Tax Rebate

Explanation

The Government has decided to introduce a tax rebate to continue Commonwealth support of private sector provision of public infrastructure. This rebate replaces the Infrastructure Borrowings (IBs) tax concession for which, as announced on 14 February 1997, certificates cannot be issued from that time (see the measure described under 'Preventing future access to the Infrastructure Borrowings tax concession').

The programme will be open for applications for assistance in respect of: private land transport infrastructure projects; project proponents which had applied for an IBs certificate by 12.00 pm (by legal time in the ACT), 14 February 1997; and extensions of projects that had been certified to use IBs.

This measure will permit resident infrastructure financiers to apply for a tax rebate on interest received from infrastructure providers in return for the infrastructure providers forgoing the tax deductibility on that interest. This will benefit infrastructure providers because financiers will be able to offer lower rates of interest or other benefits.

The rate of the rebate will be set at the lower of the financier's current year marginal tax rate or 36 per cent, the current company tax rate, and will be available in respect of the (grossed up) amount of interest on borrowings that is returned as income by the financier. The rebate will be available for up to five years from the time of first borrowing for a qualifying project. The rebate will not be tradeable and will be applied only against tax payable in respect of the income year in which the financier treats the interest as assessable income. Where a loan is fully refinanced or fully transferred, the rebate amount will be available to the new financier for the unused period of the rebate if the conditions of approval continue to be satisfied. However, if the loan interest is assigned to another entity, neither the assignee nor the assignor will be eligible for the rebate from the time of the assignment.

The cost to the budget of the rebate will be capped at $75 million per annum (including running costs). Once this cap has been reached, further rebates will not be approved. There will be no avenue of appeal against Government decisions on a project's eligibility.

The Commissioner of Taxation will call for applications for the rebate on a twice-yearly basis. Applications will be assessed against the following criteria in two stages.

In stage 1, projects will be examined to determine whether they: fall into an eligible category for assistance; involve genuine private provision of new public infrastructure; and have been subject to benefit-cost analysis. The benefit-cost analysis (together with documentation establishing the commercial feasibility of the project) should accompany the application for assistance.

• The eligible categories of new public infrastructure are road and rail projects and their related facilities and, as a transitional measure, projects that had applications for IBs pending at the time of the 14 February 1997 announcement and extensions of projects that had previously been certified to use IBs.
• Only genuine private sector proponents which provide new public infrastructure will be able to access the tax rebate. Private sector proponents will only be able to access the rebate while they pass the tests contained in section 51AD and Division 16D of the Income Tax Assessment Act 1936.

• The viability of the project from a commercial feasibility viewpoint. Projects must be commercially viable. A lack of material to support claims of commercial feasibility will be interpreted as indicating no commercial feasibility.
• The extent to which the project would not proceed without the rebate. Commercially feasible projects which are unlikely to proceed without the rebate will be preferred to projects which are likely to proceed regardless of whether they are granted the rebate. A lack of material to support claims that the project would not proceed without the rebate will be interpreted as indicating that the project would proceed regardless.
• The extent to which the tax benefits arising from the tax rebate flow to the infrastructure project proponent. Higher levels of tax benefits flowing to the infrastructure project proponent will be preferred to projects where lower levels of tax benefits flow to the project proponent. A lack of material to support claims of tax benefits flowing to the project proponent will be interpreted as indicating low levels of flow to the project proponent.
• The estimated present value of the cost to the revenue of the tax rebate being granted to the project relative to the present value of total project expenditure. Projects with lower ratios of present value cost to the revenue to present value of the total expenditure will be preferred to projects with higher ratios. A lack of material to support claimed cost to the revenue ratios will be interpreted as supporting the highest cost to revenue ratio consistent with known features of the project.
• The nature and extent of:
  • any national economic and social benefits from the project that are unlikely to be captured by the project proponent; and
  • any wider economic and social costs that are unlikely to be borne by the project proponent
• because of market failures, externalities or spillover effects. Projects with higher balances of such benefits over such costs relative to total project expenditure will be preferred to projects with lower balances relative to total project expenditure.
• The consistency of the proposed investment with any relevant Commonwealth or State policy or planning objectives. Projects meeting relevant Commonwealth or State policy or planning objectives will be preferred.
• The degree of open and public consultation with those affected by the project. Greater levels of consultation will be preferred.

The programme will have effect from 1997-98, with approval for rebates first being granted in respect of applications received by 31 December 1997. The Commissioner of Taxation will shortly be calling for applications.

Tax Exempt Entities which become Taxable - Notional Depreciation

Explanation

The Government has decided to amend the taxation law to ensure that tax exempt entities which became subject to taxation before 3 July 1995 obtain tax deductions for depreciation based on the notional written down values of their depreciable assets.

The Australian Taxation Office has consistently administered the law on the basis that exempt entities which become subject to taxation must claim deductions for depreciation as if the depreciable item were used to produce assessable income from the time of its acquisition.

The Income Tax Assessment Act 1936 was amended in December 1996 to provide for a number of transitional issues of exempt entities which became taxable from 3 July 1995. One of those amendments clarified the long-held interpretation of the depreciation provisions.

The law will be amended to provide certainty with respect to those entities which became subject to taxation before 3 July 1995.

Hire Purchase Arrangements - Balancing Adjustment on Disposal

Explanation

The Government has decided to amend the taxation law to rectify an anomaly in the capital allowance provisions of the income tax law in relation to property acquired under hire purchase or limited-recourse finance.

Under the existing provisions, it is possible for a taxpayer to obtain deductions greater than total amounts expended in relation to the cost of the property that is financed under hire purchase or through limited-recourse borrowing. This can occur when outstanding debts on the property are not paid, and the creditor may only recover the specific asset.

To remove this anomaly, the income tax law will be amended to treat unpaid amounts of the cost of property under hire purchase or limited-recourse finance arrangements as part of the consideration on disposal of the property. This change in the law will apply to disposals of property after 7.30 pm AEST, 13 May 1997, except for disposals that were made under a contract entered into before that time.

Example

Existing Law

Plant purchased for $10,000 under a hire purchase agreement may be repossessed for non-payment after two years. If at that time the plant has been depreciated for tax purposes by $7,000 but the taxpayer has paid only $4,000 of the hire purchase cost, the taxpayer would have obtained a tax gain which exceeds costs by $3,000. A further deduction would be available to the taxpayer equal to the difference between the depreciated value of $3,000 and the taxpayer's disposal price - in this case nil because the plant was repossessed. For a total outlay of $4,000, the taxpayer's deductions would be $10,000.

Amended Law

The $6,000 of the unpaid cost under the hire purchase arrangement - adjusted if necessary for any further amount the taxpayer was required to pay - would be treated as consideration on disposal, thereby creating a balancing charge of $3,000 ($6,000 less the depreciated value) to offset the $7,000 depreciation already deducted. The taxpayer's net tax deductions then would be $4,000 - equal to net outlays.

Sydney Olympic Games - Taxation Issues

.. Not zero, but rounded to zero.

The Government has decided to exempt the International Olympic Committee from tax on its Australian sourced income.

Demutualisations of Non-Insurance Organisations - Development of a Generic Tax Framework

• The nature of the measure is such that a reliable estimate cannot be provided.

The Government has decided to develop - with public consultation - a generic tax framework that can be applied to all future demutualisations of non-insurance organisations.

The application of the existing tax law to demutualisations of non-insurance organisations can be uncertain and can give rise to anomalies (including the possibility of taxpayers being subject to some element of double taxation). To address these problems the Government intends to develop a generic tax framework for determining the tax consequences of transactions associated with the demutualisation of non-insurance organisations.

Amongst other things, the generic tax framework will specify:

• what constitutes a demutualisation for the purposes of this measure;
• the tax consequences of members surrendering their membership interests in the mutual organisation;
• the basis for determining the cost base of shares issued to (former) members as a result of demutualisation; and
• the tax treatment afforded to (former) members who receive a cash payment to surrender their membership interests rather than proceeds from the sale of their demutualisation shares.

Taxation of Foreign Source Income

Explanation

After considering submissions in response to the Treasurer's Information Paper (IP) released on 24 December 1996, the Government has now settled the details of the proposed changes to the system for taxing foreign source income.

A new short list of 7 truly comparable tax countries (ie a controlled foreign company (CFC) list) will be established for the purposes of the CFC and transferor trust measures. The list will comprise Canada, France, Germany, Japan, New Zealand, the United Kingdom and the United States. Profits derived by CFCs and transferor trusts resident in these countries will continue to be largely exempt from accruals taxation under the CFC and transferor trust measures (certain tax concessions in these countries will be designated in the Income Tax Regulations). The new list will generally take effect for statutory accounting periods of CFCs and years of income of transferor trusts commencing on or after 1 July 1997.

In response to concerns raised in submissions, the definition of tainted services income in the CFC measures will be amended to exclude amounts of services income derived from an associated CFC resident in the same country provided that amount is subject to the normal rate of company tax in that country and does not reduce the attributable income of the associated CFC. The definition of tainted rental income will be amended in similar terms.

As proposed in the IP, the existing list of countries in Schedule 10 of the Income Tax Regulations will be retained, updated and expanded for the purposes of the exemptions provided in sections 23AJ and 23AH and related sections of the Income Tax Assessment Act 1936 (ITAA) dealing with the repatriation of foreign profits. This list (ie the repatriation list) will apply from 1 July 1997. Also effective from 1 July 1997, the Czech Republic and Vietnam will be added to the repatriation list. Amendments to the law will be made to ensure that Hong Kong continues to be treated as an unlisted jurisdiction following the establishment of the Hong Kong Special Administrative Region of the People's Republic of China on 1 July 1997. Other proposals in the IP in relation to the repatriation list will be adopted as proposed.

Bank branches operating in countries only on the repatriation list will be provided with an exclusion from tainted income broadly consistent with the exclusion for bank CFCs in repatriation list countries. In view of the continued globalisation of financial markets, the treatment of Australian financial institutions will be kept under review.

The Government will also take the following measures to reduce the compliance costs of the CFC measures:

• the active income test for CFCs in CFC list countries will be relaxed to ensure that it operates in the same way as the test for unlisted country CFCs;
• an active income test concession will be provided for branches of Australian companies operating in repatriation list countries, such that, consistent with CFCs in repatriation list countries, they can derive up to 5 per cent of gross turnover as tainted income and still obtain full exemption under section 23AH;
• transactions involving CFCs resident in the same CFC list country will be excluded from the transfer pricing rules in the CFC measures;
• the requirement to apply thin capitalisation rules and debt creation rules in calculating the attributable income of a CFC will be removed;
• an election to vary a CFC's accounting period for accruals taxation purposes will be allowed to take effect immediately if made during the first period that a company becomes a CFC;
• a taxpayer will be allowed to make elections on behalf of a CFC if the company is wholly owned by the taxpayer either directly or indirectly through other entities; and
• an election by a CFC for capital gains tax rollover relief will be able to be made at a later time (ie when an Australian controller lodges a tax return that is affected by the election).

The Government plans to release draft legislation on the changes prior to 1 July 1997.

Passive Income of Life and General Insurance Companies

Explanation

The Government has decided to correct a deficiency in the current formulae used to determine the passive income of controlled foreign companies (CFCs) of Australian life and general insurance companies that is subject to accruals taxation (taxation in Australia on a current basis with a foreign tax credit) to ensure that the original policy intent is achieved.

When the CFC regime was introduced, a concession was made in relation to the passive income derived by CFCs that carried on the business of life or general insurance. The concession was designed to exempt from accruals taxation passive income (eg interest, royalties, dividends) derived from assets employed to meet the calculated liabilities of policies issued by the CFC to non-resident non-associated policyholders. However, the formulae used to calculate the passive income allow income derived from assets which are in excess of the assets required to meet the liabilities of non-resident non-associated policy holders to be exempted from the CFC provisions. This deficiency has the effect of sheltering passive income earned from that excess capital from Australian tax.

The Government intends to amend the Income Tax Assessment Act 1936 to ensure that the deficiency that exists in the current formulae, contained in section 446, is corrected.

This measure is designed to achieve the original policy intention of the law and to prevent further tax avoidance. The amendment to the legislation will apply to passive income derived by insurance CFCs after Budget night (after 7.30 pm AEST, 13 May 1997).