Bills Digest No. 70  1998-99Taxation Laws Amendment Bill (No. 2) 1998


Numerical Index | Alphabetical Index

WARNING:
This Digest was prepared for debate. It reflects the legislation as introduced and does not canvass subsequent amendments. This Digest does not have any official legal status. Other sources should be consulted to determine the subsequent official status of the Bill.

CONTENTS

Passage History
Purpose
Background
Main Provisions
Endnotes
Contact Officer and Copyright Details

Passage History

Taxation Laws Amendment Bill (No. 2) 1998

Date Introduced: 12 November 1998

House: House of Representatives

Portfolio: Treasury

Commencement: The various measures contained in this Bill have differing application dates, which will be dealt with in the Main Provisions section of this Digest

Purpose

The main amendments contained in the Bill relate to:

  • Measures to remove schemes that allow higher capital losses through the artificial creation of capital losses
  • Alteration of Fringe benefits Tax relating to car parking, taxi travel and record keeping and retention
  • Clarification of calculation of dividend imputation credits for life insurance companies to ensure similar treatment for all RSA providers
  • Minor changes to the calculation of capital gains tax to prevent the double inclusion of certain expenditure in the cost base, and
  • To prevent taxpayers from receiving a depreciation advantages on the change of an entity's tax status from exempt to non-exempt.

Background

As the Bill contains no central theme the background to the various measures will be discussed below.

Main Provisions

Artificially Created Capital Losses

These measures were announced by the Treasurer in a Press Release dated 29 April 1997 and aim to deny capital losses where transfers between members of a company group give rise to multiple claims for capital losses. The provisions are linked to the roll-over relief available under the capital gains tax for, amongst other items, transfers between related companies. Under the roll-over rules, if an asset is disposed of to a related company, the transaction is exempt from capital gains tax (CGT) so long as certain conditions are met. Where roll-over relief is allowed, the acquiring company is deemed to have acquired the asset for the disposing company's relevant cost/ indexed cost base for post September 1985 assets. Assets originally acquired before this date maintain their CGT exempt status [section 160ZZO of the Income Tax Assessment Act 1936 (ITAA)].

The Australian Taxation Office has identified problems with section 160ZZN which allow larger capital losses to be generated through the passing of assets that have a capital loss through related companies. The generation of artificial losses is achieved where the cost base in the shares in a related company is less than the value of the assets held by that related company. In the example given by the ATO, one related company sells its shares in another related company to the related 'parent' company. The 'parent' also acquires the assets of the company that has been sold to it. The cost base of the shares, which section 160ZZN deems to be the acquisition price, is $1 billion while the assets of the company sold are $300m. On disposal of those assets for $300 million the 'parent' company achieves a capital loss of $700 million, the difference between the cost value of the shares it acquired and the value of the shares when the company is liquidated.

The next step is for the process to be repeated with other related companies which have acquired each other for $1 billion prior to the commencement of the 'scheme'. Each company will use the same $1 billion in the acquisition of the related company and so have a $1 billion cost base and the assets remain valued at $300 million, so the $700 million capital loss arises in each occasion. In the ATO example, with five related companies, the total amount of capital loss generated is $3.5 billion (ie. five times the $700 million actual loss).

It was announced in the Treasurer's Press Release that such losses would not be able to be used after 29 April 1997 unless by that date they where already included in a return submitted for the 1996-97 year of income.

While similar measures were contained in the Taxation Laws Amendment Bill (No. 5) 1997, which failed to pass Parliament before it was prorogued for the 1998 General Election, the delay between the announcement and the (presumed) passage of this legislation gives weight to arguments concerned about 'legislation by press release. Without seeing the actual legislation passed by Parliament at least one tax return (1997-98) will have had to have been completed with regard to the proposed rules.

Item 1 of Schedule 1 will insert proposed section 160ZPA into the ITAA for capital losses incurred before 1995-96 which are carried forward to the 1995-96 tax year. In such a case, if there remains an unused loss (ie. a loss that has not been claimed as an offset to a capital gain) the amount of capital loss available to the company will be reduced by the unused amount. If the loss was incurred in 1996-97 or a later tax year, the roll-over amount is to be reduced as if the roll-over relief provisions did not apply. In relation to losses incurred in 1996-97 or earlier years and claimed before the announcement of the new rules at 3 pm 29 April 1997, the company will be to use 1996-97 or earlier carried forward losses for the 1996-97 year of income. In later years, the losses will be reduced or denied as described above.

Proposed subsection 160ZPA(3) allows the Commissioner a discretion to allow part or all of the losses that would otherwise be disallowed under the above provisions. There must be an application from the company and the Commissioner is to have regard to a number of matters, including:

  • Whether the company had an interest in the company transferring the losses, was owed a debt by that company or had a right in a company to which the transferring company owed a debt and the value of such interests or debts, and
  • The content and timing of the supply of information to the Commissioner.

In conjunction with the specific provisions referred to above, Part 2 of Schedule 1 contains amendments to the general anti-avoidance provisions contained in Part IVA of the ITAA. Section 177C of the ITAA, which deals with what constitutes a tax benefit, will be amended to include benefits gained from capital loses between companies within a group, as defined in the UTAA. While certain activities of the company will be excluded from the definition of a tax benefit, such as making a valid election under the ITAA, are not to be taken be tax benefits and where a tax benefit has arisen, the Commissioner may cancel the benefits (item 9). The Commissioner will have power to determine if all or part of the loss should be allowable where the Commissioner is of the opinion that this would be fair and reasonable. (item 13).

Application: From 3 pm on 29 April 1997.

Fringe Benefits Tax (FBT)

Car Parking

FBT is payable where a number of conditions are met including:

  • an employer provides car parking to an employee where the parking is provided on the business premises, or associated premises
  • there is a commercial car parking station within 1 kilometre of the premises
  • the car is on the premises for more than 4 hours between 7am and 7 pm, and
  • the car is used on that day to travel between the employee's place of residence and principal place of employment.

In March 1997 the Prime Minister released a statement titled More Time for Business which aimed to 'reduce the burden of regulation and red tape carried by business'.(1) As part of the statement it was announced that, for small business, car parking at the employer's premises would be exempt from FBT from 1 July 1997.(2)

  • Part 1 of Schedule 3 will amend the Fringe Benefits Tax Assessment Act 1986 (FBT Act) to insert a new section 58GA which will exempt small business from car parking FBT. The proposed section will apply where:
  • The car is not parked at a commercial parking station
  • The employer is not a public company, a subsidiary of a public company or a government body, and
  • The income of the business in the year previous to the FBT year was less than $10 million (therefore restricting the concession to 'small business').

Where the business commences during the year, the business is to make an estimate of yearly income of the business and if this is below $10 million the exemption will also apply. Proposed section 115B will make it an offence to make an unreasonable estimate of income if the underestimate results in the exemption applying. The penalty for a breach will be penalty tax equal to twice the tax payable on the benefit

Taxi Travel

Currently, section 58Z of the FBT Act exempts employer provided taxi travel between an employees address and place of employment if the travel commences between 7am and 7 pm. Such travel is also exempt if it is due to the sickness or injury of the employee. Item 2 of Schedule 3 will remove the requirement in the first category that the travel must be between 7 am and 7 pm. Under proposed subsection 58Z(1) the taxi travel will be exempt if it is a single trip beginning or ending at the employee's place of work. This measure was announced in the statement More Time for Business.

Application: From 1 April 1997

Record Keeping

The record keeping requirements for FBT are substantially the same as for other taxes, such as income tax and capital gains tax, ie. records must be kept that identify and explain all relevant transactions to ascertain tax liability. Such records must be retained for 7 years for transactions in years beginning before 1 April 1995. For years after that date, records need only be maintained for 5 years.

In More Time for Business it was announced that businesses with a FBT liability of $5 000 or less a year would no longer be required to keep records for FBT purposes. If liability changes by 20% from the base year in which the value of benefits was calculated, or by $100 if this is greater than the 20% amount, the change must be reported to the ATO.

Changes to the record keeping requirements are contained in Schedule 12 of the Bill which will insert a new Part XIA into the FBT Act. To be eligible for the record keeping exemption an employer must:

  • Establish a base year. This can be the previous year if the employer carried on business throughout the year, lodged a FBT return, retained the record for that year and the amount of FBT does not exceed the threshold ($5 000 for the year commencing on 1 April 1996 and this amount indexed for later years). A previous year can be used if there has not been a change in the amount of FBT payable between that year and the assessment year that would have required the ATO to be notified of the change in amount of FBT payable, and
  • Not have received notification under proposed section 135E (see below) requiring the employer to resume record keeping (proposed sections 135A to 135C).

If both the above conditions are met, the employer generally will not be required to keep or retain FBT records for the year in which the conditions are met. This will not apply to records of an associate of the employer given to the employer; benefits supplied when the employer was a government body or exempt from income tax (proposed section 135E).

However, records relating to the base year are to be retained for 5 years after the end of the year to which they relate (proposed section 135F).

If the above conditions are satisfied, the FBT liability for the current year will be calculated according to the base year figures (proposed section 135G) unless the employer choses to make a calculation for the current year (proposed section 135H).

An employer will not be able to use the base year calculation if their FBT liability increases by more than 20% over base year unless this increase is less than $100. In relation to the calculation of car fringe benefits, which may be calculated on an actual use or statutory formula basis, were the amount of distance travelled in the current year is at least 80% of that in the base year, the base year calculation may continue to be used (proposed section 135K).

Where an employer does not carry on business for the whole year, a pro-rata amount of the base year liability may be used to calculate FBT liability (proposed section 135L).

Application: From the FBT year commencing on 1 April 1998.

Dividend Imputation and Retirement Savings Accounts (RSA)

Dividend imputation refers to the scheme whereby the owner of a share is given a tax credit for tax paid by a company. The amount of the franking credit will depend on the amount of tax paid by the company. However, differing rules apply to most RSA providers, such as banks, building societies and credit unions, where franking credits or debits are not taken into account in so far as they relate to income from a RSA. Currently, there is no similar restriction applying to the income of life insurance companies which are also allowed to offer RSAs.

This has resulted from the calculation of franking credits for life insurance companies is partly based on their 'general fund' component while for others it is based on their 'standard' component. The general fund component is the standard component plus amounts attributable to RSAs. In order to place all RSA providers in the same position it is proposed to change the component used for life insurance companies from the general fund to standard component. This will be achieved by Schedule 6 of the Bill that will replace relevant references in the ITAA from general fund to standard component.

Application: For franking credits or debits arising after the introduction of the Bill (ie. 12 November 1998) (item 28 of Schedule 6).

Capital Gains Tax

Cost Base

The cost base is used in calculating if there is a capital gain that is subject to CGT. Simply, whether there is a gain is determined by deducting from the sale price of the good the cost base, or if the good has been held for over 12 months, the indexed cost base (ie. the cost base increased by the change in the consumer price index). The cost base consists of the following components:

  • Consideration paid in respect of the acquisition of the asset
  • Incidental costs of acquisition
  • For non-personal use assets, non-capital costs of ownership
  • Capital expenditure on enhancing the value of the asset if this is reflected in the asset when disposed of
  • Capital expenditure to establish, preserve or defend the right to ownership of the asset, and
  • Incidental costs of disposal.

In relation to the incidental costs of acquisition, where these are deductible they are not included in the calculation of the cost base (section 160ZH of the ITAA). Deductible costs can still be added to the other categories used to calculate the cost base.

In the 1997-98 Budget, it was announced that the exclusion of deductible amounts from the calculation of the cost base would be extended to all components of the cost base, so that if a deduction is allowed for expenditure that would otherwise be included in the cost base it is now to be disregarded to the extent of the deduction. This is seen as preventing a double benefit in respect of the expenditure, ie. the initial deduction and an increased cost base that will result in a lower capital gain or increased capital loss.

Proposed section 160ZJA, which will be inserted into the ITAA by Schedule 7, provides that in calculating the cost base is to be: the consideration paid for the asset - reduced by any amount that has been allowed, or is allowable, as a deduction (ie. there is no need for the deduction to have been claimed, if it an allowable deduction that is sufficient to lead to the reduction in the cost base).

The proposed section also provides that where deductions are allowable while the owner holds the asset, these are also to be taken into account in determining any reduction in the cost base. Proposed section 160ZJB provides for similar amendments in the calculation of the indexed cost base.

Part 2 of Schedule 7 will make similar amendments to the Income Tax Assessment Act 1997 (ITAA97).

Application: generally from 7.30 pm on 13 May 1997. Minor changes in application dates relate to assets associated with land or buildings and heritage and land conservation expenditure. Amendments to ITAA97 will apply from the 1998-99 year of income.

Life Insurance Companies

The taxation of the income of life insurance companies is relatively complex which reflects the width of products offered by such companies. For example, premiums from life insurance policies are exempt as is income relating to immediate annuities which qualify as exempt policies. When a policy is defined as exempt is determined by reference to Part IX of the ITAA. The amendments contained in the Bill relate to income from exempt policies that involve immediate annuities.

Currently, section 112A of the ITAA provides that the amount of exempt income will be in the same proportion as exempt policies are to all policies and this is calculated at the end of a financial year. According to the Treasurer's Press Release dated 29 April 1997 which announced this move, the calculation of the various proportions on one day of the year can lead to distortions when compared with the average holdings during the year. This will be achieved by item 2 of Schedule 9 which will amend the formula contained in section 112A to base the calculations on average liabilities in both categories.

The average liability is calculated by reference to proposed section 114A which will exclude 'significant events' from the calculation of the liability attached to each class of policy. The inclusion of significant events has the possibility to distort the normal business liability borne by an insurance company and so distort the amount of exempt income that may result from the application of changes to section 112A. 'Significant event' is defined as an event that causes abnormal changes in the amount of liability held in the fund.

Application: Generally from 29 April 1997. However, if the company's year of income ends on or after 29 April 1997 and a significant event occurs between that date and the company's balancing date, the amendments will apply to the year of the company's previous financial year (item 10 of Schedule 9).

Depreciation of Assets Previously held by Tax Exempt Entities

In July 1995 the government announced amendments to the ITAA to ensure standardised treatment of assets that become taxable, for example through a tax exempt entity becoming taxable or disposing of an exempt asset to a non-exempt entity. The general rule is that income, deductions and other matters are treated separately from when the asset or entity becomes taxable. In effect, the two periods of when the assets was held as tax exempt and when it became taxable,. are treated as separate so that there is a clean 'line in the sand' to determine into which category income, deductions etc. belong. As noted above, depreciation is treated differently and the calculation of its value for future depreciation is determined by assuming that the asset was never exempt. This should mean that the value of the asset is deemed to have been depreciated and that the purchaser receives the asset at its 'notional written down value' (NWDV).

However, in a Press Release dated 4 August 1997, the Treasurer announced that the rules were being used to 'gain significant taxation advantages'. This is achieved by an asset being sold separately from the entity that owns it. The purchaser and seller negotiate a higher price for the asset than it would represent as part of the entity and depreciation is calculated on the agreed purchase price, rather than the NWDV. With an adjustment to compensate for the lower price of the asset the seller will receive the same sale price, the purchaser will pay the same amount and higher depreciation may be claimed. The government's position, as outlined in the Press Release, is that there should be no differing tax effects between the sale of an asset of an exempt entity and the sale of the entity. To achieve this, the purchaser will be able to chose, as the depreciated value of the asset, the greater of the NWDV and the value of the asset as registered in the entities audited books.

Proposed section 61A, which will be inserted into the ITAA by Schedule 10, deals with the treatment of tax exempt entities. Major assumption applying when calculating the taxable value of an asset are:

  • The method to be used in calculating depreciated value (prime cost or diminishing value) is to be that chosen during the transitional year (ie. the year during which the entity losses it exempt status) or, if such a choice has not been made, the method chosen when the new owner first claims depreciation. It is also assumed that this method was also used until the sale of the entity or asset, and
  • The asset had been used for income production between the time it was acquired or constructed until the time of transition to a non-exempt body.

If the amount paid for the asset is less than its notional depreciation value, the value of the asset for future depreciation will be adjusted to include notional as well as actual amounts to set the new starting value of the asset.

Application: From 1 July 1988 to 3 July 1995 (as noted above, this is from when the current laws operate).

Endnotes

  1. Prime Minister, More Time for Business, p. iii.

  2. Ibid., p. v.

Contact Officer and Copyright Details

Chris Field
6 January
Bills Digest Service
Information and Research Services

This paper has been prepared for general distribution to Senators and Members of the Australian Parliament. While great care is taken to ensure that the paper is accurate and balanced, the paper is written using information publicly available at the time of production. The views expressed are those of the author and should not be attributed to the Information and Research Services (IRS). Advice on legislation or legal policy issues contained in this paper is provided for use in parliamentary debate and for related parliamentary purposes. This paper is not professional legal opinion. Readers are reminded that the paper is not an official parliamentary or Australian government document.

IRS staff are available to discuss the paper's contents with Senators and Members
and their staff but not with members of the public.

ISSN 1328-8091
© Commonwealth of Australia 1999

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Published by the Department of the Parliamentary Library, 1999.

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