Bills Digest No. 145  1998-99 Taxation Laws Amendment Bill (No.4) 1999

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
Concluding Comments
Endnotes
Contact Officer and Copyright Details

Passage History

Taxation Laws Amendment Bill (No.4) 1999

Date Introduced: 11 March 1999

House: House of Representatives

Portfolio: Treasury

Commencement: Upon the Royal Assent

Purpose

The purpose of the Taxation Laws Amendment Bill (No.4) 1999 (the Bill), is to introduce measures to:

• Allow tax deductions for gifts made to certain funds and organisations

• Exempt from income tax, grants paid to businesses by the Katherine District Business Re-establishment Fund
• Amend capital gains tax provisions so that pre-capital gains tax assets of public entities will be treated as post-capital gains tax assets on 30 June 1999 if they cannot satisfy the Commissioner of Taxation that they have maintained continuity of majority underlying interests in the assets
• Extend the beneficiary rebate to wages paid to participants in the Community Development Employment Projects Scheme
• Rewrite the capital gains tax small business retirement exemption and small business roll-over rules
• Rewrite the capital gains tax value shifting rules
• Enable the Commissioner of Taxation to provide information to the New South Wales Police Integrity Commission and the Queensland Crime Commission, and
• Correct unintended consequences made by the rewrite of provisions of the Income Tax Assessment Act 1936 that were inserted in the Income Tax Assessment Act 1997 by the Tax Law Improvement Act (No.1) 1998.

Background

1. Income Tax Assessment Acts 1936 and 1997

From 1 July 1994 the Tax Law Improvement Project was established to restructure, renumber and rewrite the income tax law so that it can be more easily understood. The project has taken longer than expected and consequently the Tax Law Improvement Project team has chosen to adopt a 'progressive replacement' approach to the rewrite. This means that when an instalment of rewritten law comes into effect, the rest of the existing law (minus those areas that have been rewritten) continues to operate along side the new law.

The existing law is the Income Tax Assessment Act 1936 (ITAA36). The new law is the Income Tax Assessment Act 1997 (ITAA97).

The ITAA97 is organised on a descending hierarchy numbering system of Chapter-Part-Division-Section. Section numbers are cited with two components separated by a dash, as in 'section 43-20'. The first component is the number of the division and the second identifies the section in that division.

The ITAA97 contains a provision, section 1-3, which is designed to preserve the relevance of existing case law and ATO rulings.

2. Capital gains tax

Strictly speaking there is no separate tax called capital gains tax (CGT). The term does not appear in the ITAA36 or ITAA97. Those gains which fall within Part IIIA (ITAA36) or Parts 3-1 and 3-3 (ITAA97) simply form part of assessable income, as do other types of assessable income falling within other parts of the income tax Acts. However, the use of the term 'capital gains tax' is a convenient shorthand to reflect the fact that Part IIIA and corresponding Parts 3-1 and 3-3, are a largely self-contained regime containing a number of distinctive rules.

The rewrite of the CGT provisions in the Tax Law Improvement Act (No.1) 1998 did not include a rewrite of the small business retirement exemption provisions, the small business asset roll-over provisions or the asset stripping (value shifting) provisions. A rewrite of these Divisions of Part IIIA of ITAA36 is included in the Bill.

4. Joint Committee of Public Accounts and Audit (JCPAA)

The JCPAA reviewed the CGT rewrite contained in Tax Law Improvement Bill (No.2) 1997 (now retitled Tax Law Improvement Act (No.1) 1998) and tabled their findings in Parliament on 12 March 1998 as Report 356: An Advisory Report on the Tax Law Improvement Bill (No.2) 1997.

The JCPAA asked for a delay in the introduction of Subdivision 118-F, Division 123 and Division 138 pending further review by the JCPAA.

The JCPAA findings in that further review were tabled in Parliament on 21 December 1998 as Report 364: An Advisory Report on the Delayed Provisions of the Tax Laws Improvement Bill (No.2) 1997.

The delay was provided and for the most part the recommendations of the JCPAA were incorporated into the provisions introduced by the Bill, however, some of the more contentious issues before the JCPAA involved matters of interpretation of the law and as such, were not the subject of recommendation by the JCPAA. Please refer to the Comments section in each Schedule of the Bills Digest for additional information.

Main Provisions

Schedule 1 - Income tax deductions for gifts

1. Four categories of amendments

Schedule 1 proposes four categories of amendments to Division 30 of the ITAA97, which sets out the rules for working out deductions for certain gifts or contributions.

The proposed amendments:

• acknowledge the change of name of two organisations (Items 1 and 7)
• add names to the tables of recipients for deductible gifts (Items 2, 3, 6, 12, and 14)
• update the index to Division 30 to reflect additions of recipients of deductible gifts and change of names ( Items 15 to 29), and
• provide consistency between the terms used in Division 30 and those used in the Marriage Act 1961 and the Family Law Act 1975 (Items 8, 10 and 11)

In addition Item 4 extends the period of time, by one year to 2 September 1999, in which gifts to the Australian National Korean War Memorial Trust Fund will be tax deductible.

Schedule 2 - Katherine District Business Re-establishment Fund

1. Part 1 - Deductibility of gifts to the Katherine District Business Re-establishment Fund

Item 1 amends Division 30 of the ITAA97 to allow income tax deductions for gifts of $2 or more to the Katherine District Business Re-establishment fund.

Item 2 amends the index to Division 30 to include a reference to the Fund.

2. Part 2 - Exemption of grants paid from fund

Pursuant to Items 3 and 4 a grant paid to an entity is exempt from tax under the ITAA97 and nothing in Part IIIA of the ITAA36 operates to deem a capital gain to have accrued to a taxpayer resulting from the right to receive a grant.

The tax exemption applies only in relation to assessments for the 1997-98 income year. (Item 6)

Schedule 3 - Majority underlying interests in pre-CGT assets held by public entities

1. Background

The time when a CGT asset is acquired is crucial to the CGT consequences which can arise in relation to the asset. For example, if an asset was acquired before 20 September 1985, there is generally no CGT liability, which can arise from a CGT event which happens in relation to that asset.

The general acquisition rule is that a taxpayer acquires a CGT asset when the taxpayer becomes its owner. However, there are many other CGT acquisition rules which apply in specific situations and which are dealt with by specific provisions.

One of these special situations is where a taxpayer owns a pre-CGT asset and there has been a change in the majority underlying interests in the asset.

An asset stops being a pre-CGT asset when majority underlying interests in the asset were not held by the same ultimate owners who held those interests in the asset immediately before 20 September 1985. In addition the CGT provisions apply to the asset as if the taxpayer had acquired it at the time when the underlying majority interests changed.

2. Summary of changes

Subdivision 149-C of the ITAA97 deals with the situation of when an asset of a public entity stops being a pre-CGT asset.

On 30 June 1999 all pre-capital gains tax assets of public entities will be treated as post-capital gains tax assets if the public entity cannot satisfy the Commissioner of Taxation that they have maintained continuity of majority underlying interests in the assets.

Currently a public entity must 'examine its records to make a determination' about the majority underlying interests in the asset every five years.

A determination must show whether majority underlying interests in the asset were held by the ultimate owners who also had majority underlying interests in the asset before 20 September 1985. If the determination does not show this the asset stops being a pre-CGT asset.

Under the proposal in the Bill a public entity will be required to 'give the Commissioner written evidence' about the majority underlying interests in the asset commencing on 30 June 1999 and thereafter on a five yearly basis.

On the basis solely of the evidence given to the Commissioner, the Commissioner must be satisfied that, or think it reasonable to assume that majority underlying interests in the asset were held by the ultimate owners who also had majority underlying interests in the asset before 20 September 1985.

This represents a fundamental change in the role of the Commissioner in respect of the practical operation of Subdivision 149-C.

3. Part 1 - Commissioner's power to disregard tracing rules

The Commissioner's powers in section 149-140, which enable the Commissioner to disregard special tracing rules for determining underlying interests in an asset by public entities, will be removed for assessments for the 1998-99 income year and later income years.

Item 5 repeals section 149-140.

It should be noted, however, that Item 24 repeals Subdivisions 149-D and 149-E, the special tracing rules, which contain section 149-140. The rules will be removed in relation to evidence of continuity of majority underlying interests in assets that must be provided to the Commissioner on or after 30 June 1999.

Therefore, before 30 June 1999, whether pre-CGT assets have become post-CGT assets, can still be determined using the 'notional holder rules'. The Commissioner will not be able to deny the use of the special tracing rules in that period.

4. Part 2 - How changes in majority underlying interests are determined

4.1 Requirement to provide written evidence to the Commissioner concerning the majority underlying interests in assets

Division 149 deals with when an asset stops being a pre-CGT asset. Subdivision 149-C deals with when an asset of a public entity stops being a pre-CGT asset.

Pursuant to section 149-55, an entity must currently determine periodically (every 5 years after 20 January 1997) whether an asset still has the same majority underlying ownership.

Under section 149-60, a determination must show whether majority underlying interests in the asset were held by the ultimate owners who also had majority underlying interests in the asset before 20 September 1985. If the determination does not show this the asset stops being a pre-CGT asset.

The main amendments to Subdivision 149-C are those proposed to subsections 149-55(1) and 149-60(1). (Items 7 and 13 amend subsections 149-55(1) and 149-60(1))

The effect of the proposed amendments is to replace the obligation on public entities to 'examine records to make a determination' about the majority underlying interests in assets, with the requirement to 'give the Commissioner written evidence' concerning the majority underlying interests in assets. Then solely on the basis of evidence given to the Commissioner, the Commissioner 'must be satisfied that, or think it reasonable to assume that' there has been continuity of majority underlying interests in the assets.

The assets stop being pre-CGT assets if the Commissioner is not satisfied as to the continuity of ownership of the asset. (Item 20 repeals subsection 149-70(1) and inserts new subsection 149-70(1))

A public entity must furnish the Commissioner with evidence concerning continuity of ownership within 6 months of 30 June 1999 and thereafter on a five yearly basis or whenever there is abnormal trading, otherwise a public entity will be taken to have had a change in majority underlying interests. (Items 10 and 11 amend paragraph 149-55(2)(a))

There will no doubt be discussion concerning the extent of the Commissioner's powers in amended subsection 149-60(1). Inevitably there will be contention over the level and extent of evidence necessary to be provided to the Commissioner to satisfy him as to ownership of assets. The only guidance in the proposed legislation is that included by Item 9, which inserts new subsection 149-55(1A) that asserts that the evidence must be given in a form that makes the information about those interests readily apparent.

It is not implausible to suggest that any onerous evidentiary requirements imposed by the Commissioner will result in legitimate pre-CGT assets losing pre-CGT status.

4.2 Special tracing rules repealed

The current concessional tracing rules, other than those applicable to demutalising insurance entities, will be removed for the purposes of the 30 June 1999 and later test days.

Subdivision 149-D basically contains simplified rules relating to holdings of less than 1% when working out the majority underlying interests in public entities.

In such cases all holdings of shares or units of less than 1% in the entity are treated as if they were held by a single notional individual. This means that an entity does not have to trace through to the actual ultimate owners who have underlying interests in the assets.

Similarly, through Subdivision 149-E, an entity does not have to trace through complying superannuation funds, complying approved deposit funds, companies of certain kinds or government bodies, that are interposed between the entity and the ultimate owners who have underlying interests in the assets.

Item 24 repeals Subdivisions 149-D and 149-E in relation to evidence, which must be provided to the Commissioner on, or after 30 June 1999, thereby effectively removing the simplified tracing rules to coincide with the introduction of the regime that a public entity will be taken to have had a change in majority underlying interests unless the Commissioner can be satisfied otherwise.

Removal of the tracing rules may cause consternation in some circles, particularly those with superannuation funds, approved deposit funds or government bodies as shareholders.

5. Part 3 - Which companies are covered

Section 149-50 sets out which entities are public entities for the purposes of Subdivision 149-C (When an asset of a public entity stops being a pre-CGT asset).

There are currently five categories of entities covered by the Subdivision. These are, a listed company, a publicly traded unit trust, a mutual insurance company, a mutual affiliate company, companies beneficially owned by any of the foregoing and a 100% subsidiary of such beneficially owned companies.

Part 3 amends the categories of entities affected by the Subdivision by:

• deleting reference to the fifth category of entities - those 100% subsidiaries of beneficially owned companies (Item 34 repeals paragraph 149-50(f)), and
• extending the scope of companies beneficially owned to include companies beneficially owned whether directly or indirectly through one or more interposed entities. (Items 33 and 36 amend paragraphs 149-50(1)(e) and 149-55(2)(d) respectively.)

6. Comments

Amendments proposed to Subdivisions 149-C and 149-D of ITAA97 will have the combined practical effect of changing the status of pre-CGT assets held by public entities to post-CGT assets as at 30 June 1999.

Currently, entities may decide not to make a determination to show whether majority underlying interests in assets were held by the ultimate owners who also had majority underlying interests in the asset before 20 September 1985. Assets will become post-CGT assets if no determination is made.

Entities thereby avail themselves of the opportunity to simplify records and compliance procedures. Thus it is unlikely that the proposed amendments are for the purposes of simplification because this opportunity currently exists. On the contrary entities with pre-CGT assets will be faced with higher compliance costs and potentially complex tracing requirements in order to comply with the proposed amendments to maintain pre-CGT status of assets.

Schedule 4 - Beneficiary rebate for CDEP wages

Taxpayers whose assessable income includes certain benefits are entitled to a rebate of tax known as the beneficiary rebate under ITAA36 section 160AAA(1).(1) Various payments entitle taxpayers to the rebate including newstart allowance, partner allowance and Commonwealth education or training payments.

In the 1998-99 Federal budget it was announced that participants in Community Development Employment Projects (CDEP) would be entitled to claim the beneficiary rebate from 1 July 1998.

Item 1 inserts paragraph 160AAA(1)(c) to include an amount paid as a wage under the CDEP into the definition of 'rebatable benefit', which then entitles a recipient of such an amount to receive a rebate of tax of an amount ascertained in accordance with the regulations.

The amendment applies to payments made on or after 1 July 1998. (Item 2)

Schedule 5 - Small business provisions and value shifting between companies

1. Part 1 - Income Tax Assessment Act 1997: New Divisions for small business retirement exemption, small business roll-over and value shifts between companies under common ownership

1.1 Summary

The rewrite of the CGT provisions in the Tax Law Improvement Act (No1) 1998 did not include a rewrite of the small business asset roll-over provisions, small business retirement exemption or asset stripping provisions.

The Bill proposes a rewrite of these provisions by inserting three new Divisions into ITAA97 as follows:

• Subdivision 118-F - Small business retirement exemption
• Division 123 - Small business roll-over, and
• Division 138 - Value shifts between companies under common ownership.

1.2 Small business retirement exemption

1.2.1 Background

Currently a capital gain arising from the disposal of an active asset of a small business is exempt from CGT to the extent that the taxpayer that controls the business elects to treat the capital gain as a retirement benefit.

Taxpayers eligible for the small business retirement exemption are individuals carrying on business as a sole trader or partner, private companies and trusts where the net value of the business and related businesses and entities is no more than $5 million.

There is a lifetime maximum retirement exemption limit of $500,000.

1.2.2 Summary of Provisions

Item 1 of Part 1 of Schedule 5 inserts new Subdivision 118-F, which is essentially a rewrite of ITAA36 Division 17B of Part IIIA, comprising sections, 160ZZPZA to 160ZZPZQ. The rewrite does not substantively amend the current position except to include land and buildings in the exemption.

Basically an individual may choose to disregard all or part of a capital gain from a CGT event that happens to a CGT asset of their small business if the capital proceeds from the event are used in connection with the individual's retirement. (New section 118-405)

The provisions may be summarised as follows:

• A company or trust (other than a public entity) can also choose to disregard such an amount if there was a controlling individual(2) of the company or trust and the company or trust makes an eligible termination payment in relation to the controlling individual. (New subsection 118-405(3) and section 118-450)

• There is a lifetime CGT retirement exemption limit of $500,000. (New sections 118-425 and 118-435)

• The net value of the CGT assets of the relevant entity, any entities connected with the relevant entity and (if applicable) of the small business CGT affiliate(3) of the relevant entity, must not exceed $5,000,000. (New section 118-440)
• The capital proceeds must be received in the period starting one year before and ending two years after the time of the CGT event. (New paragraph 118-405(1)(c))
• The CGT asset must have been an active asset(4) during at least half the period it was owned by the entity and either an active asset just before the time of the CGT event or just before the business ceased to be carried on. (New section 118-445)
• Net capital losses must first be applied to reduce capital gains in working out whether an individual has a net capital gain for the purposes of determining the CGT exempt income. (New section 118-420)
• The market value substitution rule does not apply for the purposes of the retirement exemption. Thus if a taxpayer gifts an asset for no consideration the capital proceeds will be nil and not the market value of the asset. (New subsection 118-415(3))
• Consideration in the form of an obligation to pay money or to do some other thing (such as discharging a mortgage) is not treated as having been received until the money is paid or the thing is done. (New subsection 118-405(2))

1.2.3 Changes

The main difference between the current provisions and the rewrite is that land and buildings will be included in the exemption for a trigger event that happens after 13 August 1998.(5)

The land or building must be used or held ready for use in the course of carrying out a business by an entity that is connected with the owner or is the owner's small business CGT affiliate. (New section 123-80)

A small business affiliate is an individual's spouse or child or a person who could reasonably be expected to act in accordance with that individual's wishes. (New section 123-55). The meaning of 'connected with' is set out in new section 123-60.

1.3 Small business roll-over

1.3.1 Background

Currently a taxpayer operating a small business can obtain a replacement-asset roll-over if the business disposes of some or all of its active assets and replaces them with other active assets.

A replacement-asset roll-over allows a taxpayer to defer the making of a capital gain or loss from one CGT event until a later CGT event happens.

1.3.2 Summary of provisions

Item 2 of Part 1 of Schedule 5 inserts new Division 123, which is essentially a rewrite of ITAA36 Division 17B of Part IIIA, comprising sections, 160ZZPK to 160ZZPZ. The rewrite does not substantively amend the current position except to include land and buildings in the exemption and to align the treatment of assets other than depreciable assets with depreciable assets.

Essentially, a small business roll-over allows a taxpayer to defer the making of a capital gain from a CGT event which happens in relation to one or more small business assets if the taxpayer acquires replacement assets. ( New section 123-5)

The provisions may be summarised as follows:

• The net value of the CGT assets of the taxpayer, any entities connected with the taxpayer and (if applicable) of a small business CGT affiliate(6) of the taxpayer, must not exceed $5,000,000. (New section 123-50)
• If the original asset is neither a share in a company nor a unit in a unit trust it must have been an active asset(7) during at least half of the period the taxpayer owned it and either an active asset just before the trigger event or just before the business ceased to be carried on. (New section 123-65)
• A replacement asset must be chosen within two years after the trigger event and to be eligible as a replacement asset, an asset must be acquired in the period starting one year before and ending two years after the CGT event for which the small business roll-over is obtained. (New sections 123-10 and 123-75)
• A capital gain that would otherwise arise upon the disposal of the asset (the notional capital gain) is used to determine what the roll-over consists of. (New sections 123-10, 123-15, 123-20, 123-25, 123-30, 123-35, 123-40 and 123-45)
• Net capital losses must first be applied to reduce any notional capital gains. (New section 123-25), and
• A taxpayer may make a capital gain if there is a change in status of the replacement asset. (New sections 104-185 and 104-90)

1.3.3 Changes

The main difference between the current provisions and the rewrite is that land and buildings will be included in the roll-over for a trigger event that happens after 13 August 1998.(8)

In addition, the current distinction between non-depreciable and depreciable replacement assets has been abolished. The requirement for cost base adjustment to non-depreciable assets has been removed.(9) This means that full indexation will be available for non-depreciable assets.

1.3.4 Comments

New section 123-50 restricts the provision of roll-over relief to entities with a net value of assets, including the assets of connected entities, of $5 million or less. New section 123-60 defines the meaning of the word 'connected'.

In a submission to the JCPAA(10) new subsection 123-60(5) was criticised:

The Committee concluded that the effect of new subsection 123-60(5) appeared to be 'extraordinarily broad and difficult to comply with'. The Committee further considered that the matter was of sufficient importance to warrant the following recommendation:

This recommendation was not followed, however, it should be noted that the Committee recognised that the issue discussed is outside of the Tax Law Improvement Project's mandate.

1.4 Value shifts between companies under common ownership

1.4.1 Background

The current asset stripping provisions (ITAA36 Division 19A of Part IIIA) are designed to stop unintended CGT advantages that may result from the transfer of assets between companies under 100% common ownership. Companies would otherwise have a capacity to bring forward capital losses or defer capital gains so as to create tax deferral benefits.

The current asset stripping provisions require an adjustment to the cost base of the shares (or, and in some cases, loans) held either directly or indirectly in a company, where that company either:

2. transfers after 13 February 1991, an asset acquired before 20 September 1985 for an actual consideration which is less than the asset's market value; or

3. transfers after 6 December 1990, an asset acquired on or after 20 September 1985 for an actual consideration which is less than both the asset's market value and its indexed cost base.

However, where the transferee is a wholly-owned subsidiary of the transferor, the provisions do not apply to disposals occurring after 13 February 1991.

1.4.2 Summary of Provisions

Item 3 of Part 1 of Schedule 5 inserts new Division 138, which is essentially a rewrite of ITAA36 Division 19A of Part IIIA, comprising sections 160ZZRAAAA to 160ZZRN. The rewrite does not substantively change the current position in relation to asset stripping but it does clarify a number of matters to accord with current administrative practice.

New Division 138 applies where companies under common ownership shift assets between them for less than market value.

New Subdivision 138-A sets out the circumstances under which an adjustment to cost bases of shares (or loans) may be required.

To summarise: once an originating company does an act constituting a trigger event involving another company, a recipient company, and the companies are under common ownership and there is a shift in value from the originating company to the recipient company then adjustments may be required to:

• Reduce the cost bases of the shares (and loans) in the originating company
  
  (To avoid capital losses on the sale of the shares in the originating company.)
• Reduce the cost bases of the indirect interests in shares (and loans) in the originating company
  
  (To avoid the realisation of capital losses in interposed entities; those between the originating company and the common owners.)
  Increase the cost bases of the direct and indirect interests in the shares in the recipient company.
  
  (To avoid creating an unrealised capital gain in the company to which the value is shifted.)

Adjustments are not required under new section 138-20 if:

• The originating company receives market value for the asset
• The recipient company is a 100% subsidiary of the originating company
• The trigger event concerns a car or a motorcycle, or

• The trigger event involves a liquidation distribution.

New Subdivisions 138-B, 138-C, 138-D and 138-E deal with the reduction of cost bases of shares (or loans) in the originating company.

Basically the outcome depends upon whether assets are grouped or treated separately.

Where assets are grouped, the group to which an asset is allocated determines under which Subdivision the cost bases are reduced.

Where an asset is treated separately, the kind of asset and the time it was acquired in relation to common ownership time determines under which Subdivision the relevant cost bases are reduced.

New Subdivision 138-F deals with the grouping of assets.

New Subdivision 138-G concerns the second stage in the adjustment process, where the costs bases of indirect interests in shares (or loans) in the originating company are reduced. Adjustments are not made under this Subdivision unless there has been a reduction in the cost bases of shares (or loans) in the originating company.

New Subdivision 138-H is the third stage in the adjustment process, where the cost bases of indirect interests and direct interests in shares in the recipient company are increased by a reasonable amount having regard to the increase in their value resulting from the trigger event. Adjustments are not made under this Subdivision unless there has been a reduction in the cost bases of shares (or loans) in the originating company.

Adjustments required in relation to cost bases of direct interests in originating assets are required at the time of the trigger event concerning the CGT asset that shifts value. (New subsection 138-15(6))

Other adjustments are made when a CGT event effects either the indirect equity or debt interests in the originating company or the direct and indirect equity interests in the recipient company. (New sections 138-425 and 138-435)

The Explanatory Memorandum, at pages 60, 61 and 62, discusses changes to the value shifting rules made in the rewrite. Essentially in areas of some uncertainty, the rules have been clarified in accordance with current administrative practice.

1.4.3 Comments

1.4.3.1 Trading stock

There is some suggestion that section 118-25 (which ensures that a capital gain or loss made from a CGT event involving trading stock is disregarded) is not a faithful replication of ITAA36 equivalent.(11) This is because ITAA36 provided that CGT provisions did not apply to the disposal of trading stock, whereas section 118-25 merely disregards the capital gain or loss, thus still allowing the CGT provision to initially apply to a disposal of trading stock. The new provision is, therefore, a narrower exemption which could impact on other CGT provisions such as the interaction of New Division 138 (value shifting) and section 118-25.

The Corporate Tax Association of Australia Incorporated (CTA) suggested to the JCPAA(12) that the existing law dealing with value shifting would not apply where trading stock was involved because CGT provisions did not apply to the disposal of trading stock. However, due to section 118-25 the disposal of trading stock will still fall within the CGT provisions and therefore new Division 138 will apply to trading stock transferred for less than appropriate consideration.

The three tax professional bodies(13) suggested(14) that the transitional provisions have potential retrospectivity for Division 138. They argued that taxpayers who have interpreted existing law as not applying to the transfer of trading stock would have to adjust cost bases where any transfers of trading stock at an under value had occurred in the past.

The JCPAA noted that the issue involves a disputed interpretation of the law and if the Tax Law Improvement Project is not correct then new Division 138 will have retrospective application.

The JCPAA acknowledged that there is an arguable view that section 118-25 has effectively extended the operation of new Division 138 to the transfer of trading stock. However, whichever view of the former law was correct - the Committee acknowledged the policy reasons for new Division 138 to apply to the transfer of trading stock.

1.4.3.2 De minimus threshold exemption

The Taxation Institute of Australia (TIA) advised the JCPAA(15) that new Division 138 was difficult to comprehend because of 'overwhelming complexity of both the concepts involved ... and also the potential calculations required.' Citing the precedent of the de minimus threshold test in Division 40 (Share value shifting), the TIA recommended the inclusion of a similar threshold exemption 'where there has been a relatively insignificant and/or inadvertent value shift between underlying companies'.

The Committee accepted the Tax Law Improvement Project's arguments that a de minimus provision in new Division 138 is unnecessary.

It should be noted however, that new Division 138 will potentially apply, not only to large corporate groups with specialist advisors but to individual taxpayers who own interests in more than one company. A de minimus threshold exemption may, therefore, have some merit.

1.4.3.3 Common ownership time

The TIA raised the issue of the impact of the time when companies become a wholly-owned group company as an outcome of the operation of new Division 138:

The matter was canvassed by the Committee, but ultimately the Tax Law Improvement Project maintained that there were revenue implications, which took the issue beyond its charter. The TIA argued that the issue was the correction of a technical error/anomaly present in ITAA36 and therefore it was within their mandate.

The issue was not taken further and New Division 138 remains unaltered in this respect.

 

2. Part 2 - Income Tax (Transitional Provisions) Act 1997

ITAA36 will apply to a CGT event that is a trigger event under Division 138, if it happened before the start of a taxpayer's 1998-99 income year.

3. Part 3 - Income Tax Assessment Act 1997: consequential amendments

Part 3 introduces some significant consequential amendments to ITAA97. It rewrites current section 160ZZPX that deals with the change of status of a replacement asset for roll-overs. In the process it inserts CGT events J2 and J3. Please refer to the discussion of these provisions in the Bills Digest in relation to Schedule 5 at point 1.3, Small business roll-over.

4. Part 4 - Income Tax Assessment Act 1936: consequential amendments

Amendments are proposed to ITAA36 to take into account the rewrite of the small business retirement exemption provisions.

5. Part 5 - Application and transitional

Generally, the amendments made to the small business provisions and value shifting between companies apply to assessments for the 1998-99 income year and all later years.

For the purposes of working out whether a person has a net capital gain for the 1997-98 income year for a CGT event that happened in relation to land or a building, amendments made by Schedule 5 apply for the 1997-98 income year.

Schedule 6 - Corrections and minor amendments

1. Part 1 - Income Tax Assessment Act 1997

Part 1 of Schedule 6 makes certain minor amendments and corrections to ITAA97.

The minor amendments relate to asset register entries which will allow taxpayers to dispose of source documents that are required to be kept, if certain information contained in those source documents are entered into an assets register. (Item 39)

Another amendment will disregard a capital gain or loss a taxpayer makes resulting from the taxpayer receiving an amount as reimbursement or payment of their expenses under the M4/M5 Cashback Scheme. (Item 34)

The Explanatory Memorandum contains some tables which adequately detail other corrections and amendments proposed by Schedule 6. (Please refer to pages 66 to 71)

• CGT corrections are set out in a table appearing on pages 66 to 68
• Minor CGT amendments appear in the table on pages 69 to71

2. Part 2 - Income Tax Assessment Act 1936

Part 2 of Schedule 6 makes certain corrections to ITAA36, primarily to repeal section 304 and insert new section 304. The rewrite confirms that CGT, is to be the primary code for calculating gains and losses. The amendments correct terminology in the repealed section to reflect the concepts in ITAA97.

Part 2 also inserts new section 160ZPPA which provides for the continued operation of section 160ZPA.(17) Section 160ZPA is a proposed amendment to ITAA36 contained in the Taxation Laws Amendment Bill (No.2) 1998. This Bill was introduced into the Senate on 30 November 1998 and as at 24 March 1999 had not been passed.

3. Part 3 - Application

The amendments made by Schedule 6 apply to assessments for the 1998-99 income year and all later years.

Schedule 7 - Providing taxation information to State law enforcement agencies

Schedule 7 proposes amendments to the Taxation Administration Act 1953 to permit the Commissioner of Taxation to provide information to the New South Wales Police Integrity Commission and the Queensland Crime Commission.

Concluding Comments

Comments may be found in the Bills Digest in respect of the following issues in the discussion for the relevant subject matter.

• Majority underlying interests in pre-CGT assets held by public entities (Schedule 3, Point 6)
• Small business roll-overs and discretionary trust rules (Schedule 5, Point 1.3.4)
• Value shifting rules and trading stock, de minimus threshold exemption and common ownership time (Schedule 5, Point 1.4.3)

Endnotes

1. For 1998/99 (and subsequent income years) the beneficiary rebate is calculated by using the following formula:
   
   Lowest marginal tax rate x [Taxpayer's benefit amount - $5,400]
   
   where:
   
   Lowest marginal tax rate is 20% (for 1998/99); and
   
   Taxpayer's benefit amount is the actual amount of rebatable benefit (is the benefits, allowances, etc, in respect of which the beneficiary rebate is payable) received by the taxpayer during the income year.

2. The meaning of 'controlling individual' is defined in new section 118-410.

3. A small business affiliate is an individual's spouse or child or a person who could reasonably be expected to act in accordance with that individual's wishes. (New section 123-55)
4. An asset owned by a taxpayer is generally an active asset if it is used or held ready for use by the taxpayer in the course of carrying on a business, or it is an intangible asset inherently connected with the business. It does not include shares in a company or interests in a trust. A CGT asset is also an active asset if it is land or a building used or held ready for use in the course of carrying on a business by an entity that is connected to the owner or is the individual's small business affiliate. (New section 123-80)

5. The Treasurer announced in Press Release No. 76 of 1998 that the small business retirement exemption would be extended to include land and buildings held by a taxpayer if the land and buildings were used by an entity connected with the taxpayer. Consequently the extension to the provisions will apply from the date of the press release - 13 August 1998.

6. Refer endnote 3.

7. Refer endnote 4.

8. Refer endnote 5 and discussion in the Bills Digest in relation to Schedule 5 at point 1.2, Small business retirement exemption.

9. Current sections 160ZZPU, 160ZZPV and 160ZZPW apply to reduce the cost base of non-depreciable replacement assets by an amount of a capital gain arising from a CGT event.
   
   Current section 160ZZPX applies to impose a capital gain upon the change of status of a replacement asset. In addition where the replacement asset is not a depreciable asset, the amount by which the cost base was reduced is reversed. Upon later disposal a taxpayer will not have the benefit of indexation on that amount by which the cost base was reduced for the period from when the cost base was initially reduced to when it was restored.
   
   The Explanatory Memorandum discusses the change in treatment for non-depreciable assets at page 49. It is a little confusing in that it talks of CGT events J2 and J3 happening to replacement assets to trigger a capital gain. In fact CGT events J2 and J3 are the proposed provisions, contained in the Bill, that rewrite the current section 160ZZPX, which deals with change of status. CGT events J2 and J3 do not currently exist.

10. JCPAA, Report 364: An Advisory Report on the Delayed Provisions of the Tax Law Improvement Bill (No.2) 1997 p 9 (reference to: Taxation Institute of Australia, Submission, p. S565)

11. Section 160L(3)(a), (4)(a) and (5)(a).

12. JCPAA, Report 356: An Advisory Report on the Tax Law Improvement Bill (No.2) 1997 p. 39 (reference to: CTA, Transcript, p 64 (28 January 1998))

13. Australian Society of Certified Practising Accountants, the Institute of Chartered Accountants and the Taxation Institute of Australia.

14. JCPAA, Report 356: An Advisory Report on the Tax Law Improvement Bill (No.2) 1997 p. 46 (reference to: Tax professional bodies, Transcript, p. 160 (29 January 1998))

15. JCPAA, Report 364: An Advisory Report on the Delayed Provisions of the Tax Law Improvement Bill (No.2) 1997 p 10 (reference to: Taxation Institute of Australia, Submission, pp. S566 and S573)

16. Ibid p. 11

17. Section 160ZPA will limit certain artificially created losses from arrangements involving the roll-over of assets within company groups. Section 160ZPA will not apply to a small business ($5 million net asset value limit).

 

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Lesley Lang
26 March 1999
Bills Digest Service
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ISSN 1328-8091
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