BILLS DIGEST NO. 24, 2012–13

12 December 2012

Tax Laws Amendment (Special Conditions for Not-for-profit Concessions) Bill 2012

Bernard Pulle
Economics Section

This Bills Digest replaces an earlier version dated 5 October 2012, to clarify a legislative reference on page 17.

Glossary

Abbreviation

Definition

ACNC

Australian Charities and Not-for-profits Commission

ATO

Australian Taxation Office

DGR

Deductible gift recipient

FATF

Financial Action Task Force

ITAA 1997

Income Tax Assessment Act 1997

ITEE

Income tax exempt entity

ITEF

Income tax exempt fund

NFPE

Not-for-profit entity

NFP sector

Not-for-profit sector

OAGDS

Overseas Aid Gift Deductibility Scheme

TES 2011

Tax Expenditures Statement 2011

The Commissioner

Commissioner of Taxation

Wycliffe

Wycliffe Bible Translators

Word Investments

Federal Commissioner of Taxation of the Commonwealth of Australia v Word Investments Limited (2008) 236 CLR 204

Date introduced:  23 August 2012

House:  House of Representatives

Portfolio:  Treasury

Commencement:  The Act commences on the day it receives the Royal Assent. The commencement and application of the various Schedules are indicated in the section of this Bills Digest dealing with the Key provisions.

Links: The links to the Bill, its Explanatory Memorandum and second reading speech can be found on the Bill's home page, or through http://www.aph.gov.au/Parliamentary_Business/Bills_Legislation. When Bills have been passed and have received Royal Assent, they become Acts, which can be found at the ComLaw website at http://www.comlaw.gov.au/.

Purpose

The Bill aims to restate and standardise the special conditions for tax concessions for deductible gift recipients (DGRs) and income tax exempt entities (ITEEs).

The Explanatory Memorandum states that the measures in the Bill codify the stricter ‘in Australia’ rules for DGRs and restate the less stringent ‘in Australia’ rules for ITEEs and other special conditions ITEEs must meet to be income tax exempt.[1]

The Bill also provides a definition of ‘not-for-profit-entity’ and replaces the term ‘non-profit’ in tax laws with the term ‘not-for-profit’.

The Explanatory Memorandum to the Bill states that the ‘in Australia’ special conditions will provide additional measures to address possible abuse of not-for-profit entities for the purposes of money laundering and terrorist funding.[2]

Background

In the 2009–10 Budget, the Australian Government announced that it would amend the ‘in Australia’ special conditions in Division 50 of the Income Tax Assessment Act 1997 (ITAA 1997) that deals with conditions of exemption of income of various exempt entities.[3]

On 12 May 2009, the then Assistant Treasurer and Minister for Competition Policy and Consumer Affairs, Chris Bowen, indicated that the Government would amend the 'in Australia' requirements in Division 50 of the ITAA 1997 to ensure that Parliament retains the ability to fully scrutinise those organisations seeking to pass money to overseas charities and other entities.[4]

On 27 May 2011, the then Assistant Treasurer and Minister for Financial Services and Superannuation, Bill Shorten, released a discussion paper – Better targeting of not-for-profit tax concessions – seeking public views on how to implement the Government's 2011–12 Budget announcement to better target not-for-profit (NFP) tax concessions for unrelated commercial entities.[5]

This was followed by the issue of two exposure drafts of legislation on 4 July 2011 and 17 April 2012. The measures in the Bill include responses to stakeholder feedback.[6]

Basis of policy commitment

The High Court of Australia, in Commissioner of Taxation of the Commonwealth of Australia v Word Investments Limited (2008) (Word Investments) decided that, under current tax law, charities could be regarded as pursuing their objectives principally ‘in Australia’, if they merely operate to pass funds within Australia to another charity that conducts its activities overseas.[7]

The Explanatory Memorandum states that the intention of the proposed law is to reverse the effect of the decision of the High Court and to give full effect to the current policy intent to limit the extent to which charities and other income exempt entities can direct funds to overseas projects without compromising the tax integrity rules.[8]

Another policy objective, which the measures in the Bill seek to achieve by restating the ‘in Australia’ rules for ITEEs and codifying the ‘in Australia’ rules for DGRs, is to address possible abuse of not-for-profit entities for the purposes of money laundering and terrorist financing.[9] Australia is a member of the Financial Action Task Force (FATF), which is an inter‑governmental body which develops and promotes policies to combat ‘money laundering, terrorist financing and other related threats to the integrity of the international financial system’.[10] FATF has developed a series of Recommendations that are ‘recognised as the international standard for combating of money laundering and the financing of terrorism and proliferation of weapons of mass destruction’.[11] One of these recommendations, FATF Recommendation 8 (which was previously referred to as FATF Special Recommendation VIII (SR VIII)), is intended to prevent non-profit organisations being misused for the purpose of terrorist funding.[12]

The Executive Summary of the Third Mutual Evaluation Report on Anti-Money Laundering and Combating the Financing of Terrorism – Australia, dated 14 October 2005, states that Australia should give further consideration to implementing measures to prevent not-for-profit entities being misused to divert funds to terrorist organisations as follows:

Australia has reviewed its non-profit organisation sector and has taken some measures to ensure that these entities are not used to facilitate the financing of terrorism; however, the reviews have not resulted in the actual implementation of any additional measures. Australia should consider more thoroughly reviewing the adequacy of laws and regulations in place to ensure that terrorist organisations cannot pose as legitimate non-profit organisations. Australia should give further consideration to implementing specific measures from the Best Practices Paper to SR VIII or other measures to ensure that funds or other assets collected by or transferred through non-profit organisations are not diverted to support the activities of terrorist organisations.[13]

This view is reflected in the Explanatory Memorandum, which states that FATF’s last review found that Australia was only partially compliant with SR VIII.[14]

Committee consideration

Inquiry by the Parliamentary Joint Committee on Corporations and Financial Services

On 23 August 2012, the Bill, together with the Australian Charities and Not-for-profits Commission Bill 2012 (the ACNC Bill) and the Australian Charities and Not-for-profits Commission (Consequential and Transitional) Bill 2012 (the Consequential Bill) were referred to the Parliamentary Joint Committee (PJC) on Corporations and Financial Services (the Joint Committee) for inquiry and report.[15]

Views of the Government Members and Senators in the Majority Report

The Joint Committee’s report highlighted the concerns of stakeholders on the ‘tracing provisions’ in proposed subsection 50-50(4) of the ITAA 1997, inserted by item 38 of Schedule 1 to the Bill, and proposed subsection 30-18(3) of the ITAA 1997, inserted by item 2 of Schedule 1 to the Bill. These provisions deal with conditions that must be met by a ‘donating charity’ in order to meet the ‘in Australia’ test and qualify as an ITEE or DGR respectively.[16] A ‘donating charity’ is a charity that provides money, property or benefits to another entity, in furtherance of the charity’s purposes (as occurred in the Word Investments case). In order to determine whether the donating charity meets the ‘in Australia’ requirements, regard must be had to how the donation is used by the receiving entity. To meet the ‘in Australia’ test relating to ITEE status, the donating charity must operate, and pursue its purposes, 'principally' in Australia (proposed subsection 50-50(2) of the ITAA 1997), while to meet the test relation to DGR status, the donating charity must meet the far higher requirement to operate, and pursue its purposes, ‘solely’ in Australia (proposed subsection 30-18(1)). Due to the ‘tracing provisions’ in proposed subsections 50-50(4) and 30-18(3) of the ITAA 1997, the way in which the receiving entity uses the donating charity’s donation must be taken into account when determining whether these tests are met.

In Recommendation 4.1 , the committee recommends that the Australian Taxation Office circulate guidance material relating to compliance with the requirements of proposed subsection 50-50(4). The Joint Committee stated that this material should be developed in consultation with stakeholders and provide examples which illustrate the responsibilities of donors in checking recipient entities' expenditure.

The Government Senators and Members in the Majority Report recommended that the Bill be passed.

The Coalition Senators and Members Dissenting Report

The Coalition Senators and Members in their Dissenting Report noted that the Bill affects many important definitions and eligibility conditions applicable to entities that seek tax exempt status or DGR status. They also concluded that the Government has undertaken insufficient preparation to have these key provisions ready for commencement from the income years following Royal Assent.[17]

They recommended that the Bill not be passed in its current form.[18]

The additional comments of the Australian Greens

The Australian Greens supported the recommendations in the majority committee report, but made some additional comments in relation to ‘some other key elements that [they felt] need to be addressed before these Bills are passed’.[19]

The Australian Greens have a particular concern with the wording of the definition of ‘not-for-profit entity’ which will be inserted into subsection 995-1(1) of the ITAA 1997 by item 44 of Schedule 1 of the Bill. Their concern is with the requirement, in paragraph (a) of the proposed definition, that a not-for-profit entity is not ‘carried on for the profit or gain of its owners or members’. The Greens state that evidence submitted to the committee suggests that this requirement could potentially undermine the capacity of organisations, such as disability service organisations, to recruit members who benefit from the services of the organisation to the organisation's board.[20]

Inquiry by the Senate Community Affairs Legislation Committee

On 23 August 2012, the Bill together with the ACNC Bill and the Consequential Bill were referred to the Senate Community Affairs Legislation Committee (Senate Committee) for inquiry and report by 12 September 2012. The report of the Committee was issued on 12 September 2012.[21]

The report indicates that, due to time constraints, the Senate Committee concentrated to a large extent on the ACNC Bill.[22]

The report notes that there have been at least seven reviews of the regulation and taxation of the not-for-profit (NFP) sector in Australia over the last 17 years. According to Treasury, a consistent theme that has emerged from these reviews is that the regulation of this sector will be significantly improved by establishing a national regulator and harmonising and simplifying regulatory and taxation arrangements.[23]

The report notes that initially only tax endorsed charities would be regulated by the Australian Charities and Not-for-profits Commission (ACNC) but that the ACNC Bill would establish a framework that can be extended to Not-for-profit entities (NFPEs) in the future.[24]

In addition, the report notes that the ATO will accept the ACNC’s decision on whether an organisation is a charity. Existing charities endorsed by the ATO as income tax exempt will be automatically registered with the ACNC.[25]

The Senate Committee recommended that the Bills be passed.

Coalition Senators Dissenting Report

The Coalition Senators state that they broadly support the objects of the Bills, but do not consider that the Bills will achieve a reduction in ‘unnecessary regulatory obligations’ on the NFP sector.[26] The Coalition Senators do not support the establishment of the ACNC as a regulatory body, but would instead support ‘a small Charities Commission as an educative and training body ... The Coalition would retain the regulatory powers that already exist in the ATO, ASIC and other similar bodies and not transfer them to the new Commission’.[27]

The Coalition Senators recommended that the Bills not be passed in their current form.[28]

Additional Comments by Nick Xenophon, Independent Senator for South Australia

Senator Xenophon stated that there is a need to improve public knowledge of how contributions to NFPEs are spent and the community benefit provided by NFPEs. Senator Xenophon considered that the amount of revenue forgone by the inappropriate application of income tax status ‘needs to be addressed as a matter of urgency’.[29]

Senator Xenophon recommended that the ACNC Bill be amended to require all charities and NFPs to register with the ACNC within 12 months to receive tax concessions.[30]

Senator Xenophon also recommended that the legislation be amended to include the requirement that an entity must satisfy a public benefit test before being defined as a charity or NFP in order to receive tax free status and that this requirement must be a continuing one.[31]

Senator Xenophon recommended that the Bills be passed with the appropriate amendments to strengthen their intent and purpose.[32]

Australian Greens – Dissenting Report

The Dissenting report of the Australian Greens records that several organisations that made submissions to the Senate Committee, such as the Salvation Army and World Vision, raised significant concerns about the ability of the definitions of ‘not-for-profit’ and ‘in-Australia’ outlined in the Bill to achieve the aims set forth in the Explanatory Memorandum or in the Government’s statements on these issues.[33]

The Australian Greens considered the definition of not-for-profit to be insufficient because it would not support a robust, diverse independent sector and, as a result, recommended that it be amended within the text of the Bill and further clarified in the Explanatory Memorandum. They also recommended that the definition of ‘not-for-profit’ be reviewed in the context of reviewing and reforming the statutory definition of charity.[34]

The Dissenting report notes that submitters had raised concerns about the application of the ‘in Australia’ provisions in relation to the responsibility of the registered entity to ensure that monies distributed to another entity are not subsequently sent overseas. The Australian Greens recommended that the application of the ‘in-Australia’ rule should be resolved through further consultation with the sector and the obtaining of expert advice.[35]

Finally, the Australian Greens recommended that the Bill not be passed until further work has been undertaken to resolve the concerns of the NFP sector.[36]

Financial implications

The Explanatory Memorandum states that the Bill has a nil revenue impact. It adds: ‘However, it does protect large amounts of revenue that would otherwise be forgone.’[37]

Attachment A to this Bills Digest includes information extracted from the Tax Expenditures Statement 2011 (TES 2011) which gives the revenue forgone through the tax concession of allowing deductions to DGRs.

Attachment B to this Bills Digest includes information extracted from TES 2011, which gives the revenue forgone from the tax concession of exempting income of different categories of ITEEs.

The comments in the Explanatory Memorandum clearly indicate that at present there is scope for abuse of NFPEs for the purpose of money laundering and terrorist financing.[38] There is also scope for tax deferral, if not tax avoidance, by ITEEs set up to hold funds pending transfer to a DGR in a self-assessment regime.

Key provisions

Schedule 1—Restating and standardising the special conditions for tax concession entities

Brief comments on the current law relating to tax exempt entities

Division 50 of the ITAA 1997 currently deals with various exempt entities and the special conditions for exemption of income from income tax.

The provisions in Subdivision 50-A include conditions for exempting income of entities in various activities:

·         section 50‑5, Charity, education, science and religion

·         section 50‑10, Community service

·         section 50‑15, Employees and employer

·         section 50‑20, Funds contributing to other funds

·         section 50‑25, Government

·         section 50‑30, Health

·         section 50‑35, Mining

·         section 50‑40, Primary and secondary resources and tourism, and

·         section 50‑45, Sports, culture and recreation.

Subdivision 50-B sets out rules about endorsement of entities as charities and income tax exempt funds (ITEFs).  Such entities are only exempt from income tax if they are endorsed as exempt by the Commissioner of Taxation.[39]

Organisations that are not charities or ITEFs can self-assess their income tax status. This means they can work out for themselves if they are exempt. They do not need to be endorsed by the Commissioner or get confirmation of their income tax status from the Commissioner.[40] The requirements for self-assessing organisations in the following categories are set out in the ATO Income Tax Guide for non-profit organisations:

·         community service organisations

·         cultural organisations

·         educational organisations

·         employment organisations

·         health organisations

·         religious organisations

·         resource development organisations

·         scientific organisations and

·         sporting organisations.[41]

Proposed changes to Division 50

Part 2 of Schedule 1 deals with the changes to tax exempt entities.

Item 26, in Part 2 of Schedule 1, inserts proposed section 50-1 into the ITAA 1997, to provide a guide to revised Division 50 of that Act. Proposed section 50-1 summarises what this Division is about and the special conditions to be met by an entity to be endorsed by the Commissioner of Taxation as an ITEE. The main requirements, subject to certain exceptions, are that:

·         it must be a not-for-profit entity (proposed paragraph 50-50(1)(a))[42]

·         it operates principally in Australia (proposed paragraph 50-50(2)(a))

·         it pursues its purposes principally in Australia (proposed paragraph 50-50(2)(b))

·         it satisfies all of the substantive requirements in its governing rules (proposed paragraph 50‑50(3)(a)) and

·         it uses its income and assets solely to pursue the purposes for which it is established (proposed paragraph 50-50(3)(b)).

Definition of ‘not-for-profit entity’

A key definition in Schedule 1, Part 3, item 44 of the Bill is the proposed definition of ‘not-for profit entity’ (NFPE) inserted into subsection 995-1(1) of the ITAA 1997. For ease of reference this provision is set out below.

not‑for‑profit entity means an entity that:

(a)              is not carried on for the profit or gain of its owners or members, neither while it is operating nor upon winding up; and

(b)              under an Australian law, foreign law, or the entity’s governing rules, is prohibited from distributing, and does not distribute, its profits or assets to its owners or members (whether in money, property or other benefits), neither while it is operating nor upon winding up, unless the distribution:

              (i)              is made to another not‑for‑profit entity with a similar purpose; or

              (ii)              is genuine compensation for services provided to, or reasonable expenses incurred on behalf of, the entity.

This definition of a NFPE applies equally to an entity incorporated or established in Australia or under a foreign law, and the entity is permitted to make a distribution to another NFPE with a similar purpose, wherever incorporated or established, without losing its status as a NFPE.

Foreign law is defined in subsection 995-1(1) of the ITAA 1997 as being a law of a foreign country. ‘Foreign country’ is defined in section 2B of the Acts Interpretation Act 1901 (the AIA) as any country (whether or not an independent sovereign state) outside Australia and the external territories.[43]

Arguably, in some circumstances, a part of a country under the control of terrorists, which is outside Australia and the external territories, might satisfy this definition of foreign country.

This issue with the definition of NFPE may need attention, together with other concerns pointed out in the reports of the Joint Committee and the Senate Committee referred to above, if the purposes of this Bill are to be achieved.

Organisations that need not be NFPEs to qualify for the exemption of income from taxation

As mentioned above, proposed paragraph 50-50(1)(a) of the ITAA 1997 requires an entity to be a NFPE for the special conditions for exemption of income to apply. However, proposed subsection 50-51(1) provides that the requirement to be a NFPE does not apply for the following entities to qualify for exemption of income from taxation:

·         employer organisations and trade unions covered by section 50-15 of the ITAA 1997 (proposed paragraph 50-51(1)(a)) and

·         public educational institutions and public hospitals (proposed paragraph 50-51(1)(b) and (c) respectively).

Requirement to operate and pursue purposes mainly in Australia

Proposed subsection 50-50(2) of the ITAA 1997 provides that, in order to be exempt from income tax, an entity must operate principally in Australia and pursue its purposes principally in Australia.

This is followed by the requirement in proposed subsection 50-50(3) that the entity must comply with all substantive rules in its governing rules and apply its income and assets solely for the purposes for which the entity is established.

Proposed subsection 50-50(4) states that if an entity provides money, property or benefits to another entity that is not an exempt entity, the way in which the receiving entity uses the donating charity’s donation must be taken into account when determining whether the donating entity operates, and pursues its purpose, principally in Australia.

These proposed provisions are intended to reverse the decision of the High Court in Word Investments. In that case the High Court held that a charitable organisation which makes an outright transfer of money applicable for charitable purposes to any other corporation established exclusively for charitable purposes, is regarded to have ‘applied’ such money for ‘charitable purposes’.

Proposed subsection 50-50(5) provides that if an entity complies with the conditions, if any, prescribed in regulations, the use of the following amounts may be disregarded in determining whether an entity operates and pursues its purposes in Australia. These are:

(a)    an amount received as a grant from a government entity;

(b)    an amount received by the entity as a gift or contribution, whether in money or property, where the provider was not entitled to a deduction under Division 30 in respect of the gift or contribution.[44]

The Explanatory Memorandum to the Bill states that the requirements to be prescribed under the regulations may include:

·         the entity must demonstrate that any activities undertaken outside Australia and the use of any money or property outside Australia is effective in achieving the entity’s purpose;

·         the entity must comply with all Australian and foreign laws, Australia’s international treaty obligations, and uphold the high reputation of Australia and it’s not‑for‑profit sector when sending money overseas; and

·         the entity must show it has in place current and appropriate governance arrangements for the proper monitoring of any overseas activities undertaken by both it and any in‑country partners to ensure that any money and property is being used in a proper and effective manner.

Of course, the regulations may also prescribe other requirements that have not been indicated at this stage.

In other words, if an ITEE receives a gift of money or property from another entity and that entity was not able to claim a tax deduction for that gift under the Division 30 of the ITAA 1997, the ITEE can pass that gift of money or property to another entity outside Australia and that transaction will not be taken into account in determining whether the ITEE complies with the in-Australia rules.

As referred to briefly above, under proposed paragraph 50-50(3)(b) of the ITAA 1997,in order to be income tax exempt, an entity must apply its income and assets solely for the purpose for which it is established. The Explanatory Memorandum, in paragraphs 1.94 to 1.97 on page 23, discusses the difficulties for the ATO in determining whether an entity meets this requirement, particularly in circumstances where the entity has engaged in what the ATO views as ‘inappropriate conduct’, which does not indicate that the entity is not pursuing the purposes and objectives for which it was established.  This difficulty may be compounded for the ATO if proposed paragraph 50-50(5)(b) provides entities, with an avenue to channel funds gifted by other entities that are not entitled to claim deductions under Division 30, to entities overseas without violating the in‑Australia rules.

The ‘inappropriate conduct’ referred to in the Explanatory Memorandum may include taking the opportunity to use ITEEs to pass funds of other entities to tax havens or for terrorist organisations.

Entities that do not need to operate principally in Australia and pursue their purposes principally in Australia to qualify for the exemption of income from taxation

Proposed subsection 50-51(2) provides that the requirement in proposed subsection 50-50(2) for an entity to operate, and pursue its purposes, principally in Australia does not apply to:

(a)    an entity endorsed as a DGR, other than in respect of operating a fund, authority or institution

(b)    an entity endorsed as a DGR for the operation of, and to the extent that it operates, a fund, authority or institution

(c)     an entity that is a foreign resident that is exempt from income tax in the country in which it is resident and which is prescribed in regulations and satisfies the conditions prescribed in regulations made for the purposes of proposed paragraph 50-51(2)(c)

(d)    an entity that is an Australian resident that operates and pursues its purposes principally outside Australia and which is prescribed in regulations and satisfies the conditions prescribed in regulations made for the purposes of proposed paragraph 50-51(2)(d).

A note to proposed subsection 50-51(2) states that different conditions apply to DGRs under proposed section 30-18.

Checking status of tax exempt entities

Item 45 of Schedule 1 amends the Taxation Administration Act 1953 (TAA 1953) by adding proposed section 353-30 at the end of Division 353 in Schedule 1 to the TAA 1953. This provision will enable the Commissioner of Taxation to require a foreign resident entity prescribed in the regulations under proposed paragraph 50-51(2)(c) of the ITAA 1997 or an Australian resident operating and pursuing its purposes principally outside Australia prescribed in the regulations under proposed paragraph 50-51(2)(d) of the ITAA 1997 to provide information that is relevant to ascertain their status as prescribed entities.

If the Commissioner is satisfied that there is a change in the principal purpose of the entity or that the entity fails or ceases to comply with any rules or conditions made by the Prime Minister or any other Minister, the Commissioner must give written notice of that fact to the Minister.

Failure to comply with a request made by the Commissioner is an offence against section 8C of the TAA 1953.

These proposed measures replicate the provisions in section 353-20 of the TAA 1953 for checking the status of specifically listed DGRs.

Measures in the Bill to codify the ‘in-Australia’ special conditions for DGRs

The ‘in-Australia’ rules in current tax law

Division 30 of the ITAA 1997 sets out the rules for working out deductions for certain gifts or contributions made by a taxpayer. Subdivision 30-A contains a table of all the gifts and contributions that can be deducted as well as the special conditions that attach to the fund, authority or institution to which the gift is made. Subdivision 30-B has a number of tables that list particular funds, authorities or institutions that deductible gifts can be made to.

Item 1 in the table in section 30-15 of Subdivision 30-A refers to a fund, authority or institution covered by an item in any of the tables in Subdivision 30-B.  The special conditions relevant to item 1, currently includes the condition in paragraph (a) that the fund, authority or institution must be ‘in Australia’. However, there are exceptions to the ‘in Australia’ rules.

The ATO website has a publication titled GiftPack which sets out the ‘in Australia’ rules, with examples as follows.

The ‘in Australia’ condition applies to all DGRs (except public ancillary funds). This means the organisation must be in Australia. If it is not in Australia, it cannot be a DGR.

For funds, institutions and authorities to be in Australia, they must be established and operated in Australia.

·         Example

A fund is set up in Turkey. Its controlling board, most of its assets and its donors are in Turkey. It sends money to Australia to help people who are in necessitous circumstances.

The fund is not 'in Australia'. It cannot be endorsed as a DGR.

·         Example

A public museum is incorporated in New Zealand and has a branch in Australia.

It is not 'in Australia'. It cannot be endorsed as a DGR.

For the following funds, the purposes or beneficiaries of the fund must also be in Australia:

·         a fund for providing religious instruction in government schools

·         an Australian disaster relief fund

·         a necessitous circumstances fund

·         an Australian war memorial fund

·         a marriage guidance fund, and

·         charitable scholarship funds.

·         Example

A fund is set up and operates in Australia. It makes its distributions for providing religious instruction in schools run by a government in Europe.

The fund is not 'in Australia'. It cannot be endorsed as a DGR.

The purposes or beneficiaries of a fund do not have to be in Australia if the fund is in one of these DGR categories:

·         overseas aid funds

·         developed country disaster relief funds

·         public funds on the Register of Environmental Organisations, or

·         DGRs listed by name in the income tax law if the government of the day (when they were listed) approved overseas purposes or beneficiaries.

The fund itself must still be established and operated in Australia.[45]

The proposed ‘in Australia’ codified

The ‘in Australia’ special conditions for DGRs are set out in proposed section 30-18 to be inserted at the end of Subdivision 30-A of Division 30 of the ITAA 1997 by item 2 of Part 1 of Schedule 1 of the Bill.

Proposed subsection 30-18(1) states that, subject to proposed subsections (4) and (5), a fund, authority or institution satisfies the requirement to operate in Australia if:

·         it is established in Australia (proposed paragraph 30-18(1)(a))

·         it operates solely in Australia (proposed paragraph 30-18(1)(b)) and

·         it pursues its purposes solely in Australia (proposed paragraph 30-18(1)(c)).

Interpretation of ‘solely in Australia’

According to the Explanatory Memorandum, ‘solely in Australia’ is to be interpreted as requiring DGRs to be established and operated only in Australia (including control, activities and assets) and to have their purpose and beneficiaries only in Australia.[46]

Exception for some activities outside Australia

Proposed subsection 30-18(2) states that a fund, authority or institution that operates or pursues its purposes outside Australia does not fail the conditions in proposed paragraphs 30-18(1)(b) and (c), namely, of operating solely in Australia and pursuing its purposes solely in Australia, because:

(a)    its activities outside Australia are merely incidental to its operations and pursuit of purposes in Australia; or

(b)    its activities outside Australia are minor in extent and importance when considered with reference to its operations and pursuit of purposes in Australia.

The Explanatory Memorandum in paragraph 1.130 on pages 28 and 29 gives examples of minor and incidental activities outside Australia that will not breach the proposed ‘in Australia’ rule.

DGRs and the tracing rules

Proposed subsection 30-18(3) provides that if a fund, authority or institution provides money, property or benefits to another entity that is not a DGR, the use of that money, property or benefits by that other entity or any other entity must be taken into account when determining whether the fund, authority or institution satisfies the conditions in proposed paragraphs 30(1)(b) and (c). (As set out above, these proposed paragraphs deal with the requirements for a DGR to operate solely in Australia and to pursue its purposes solely in Australia).

A DGR is expected to undertake a self-review regularly under current law. If, after receiving DGR endorsement by the ATO, it transfers money, property or benefits to an entity that does not use that money, property or benefits for purposes similar to the purposes for which the DGR received that status, the DGR is expected to report loss of DGR status to the ATO after the self-review.

If a DGR does not report the loss of the DGR status to the ATO, the fact that money, property or benefits had been diverted to purposes other than the purposes for which the DGR received approval as a DGR, would only be discovered if the ATO conducted an audit.

The question arises whether it is in the public interest to allow a DGR to transfer funds to other entities having regard to the fact that taxpayer funded money, property or benefits could get into entities that may pursue objectives such as terrorism or such entities may be used to channel funds into tax havens for tax avoidance purposes.

The application of the ‘in Australia’ test to entities providing educational scholarships

Proposed subsection 30-18(4) provides that a fund, authority or institution established for the sole purpose of providing money for scholarships, bursaries or prizes satisfies the ‘in Australia’ test if it is established in Australia, as required by proposed paragraph 30-18(1)(a). Such an entity does not need to satisfy the tests in proposed paragraphs 30-18(b) and (c), namely, to operate solely in Australia and pursue its purposes solely in Australia, respectively.

The application of the ‘in Australia’ rules to ‘international affairs’ DGRs

Under proposed subsection 30-18(5), entities that are DGRs under the category of ‘international affairs’ under section 30-80 of the ITAA 1997 satisfy the ‘in Australia’ test if they are established in Australia, as required by proposed paragraph 30-18(1)(a). Such entities do not need to satisfy the tests in proposed paragraphs 30-18(b) and (c), namely, to operate solely in Australia and pursue its purposes solely in Australia, respectively.

The Explanatory Memorandum explains in paragraphs 1.132 to 1.135 the general nature of this exemption as follows:

·         1.132 This includes entities which are specifically listed under the ‘international affairs’ category.  Organisations that are specifically listed in other sections of Division 30 must continue to meet the ‘in Australia’ special conditions.

·         1.133 These deductible gift recipients include overseas aid funds, developed country relief funds and similar deductible gift recipients where their activities are clearly intended to be undertaken overseas.  This is in recognition that although some organisations are not operating in Australia, it is considered that they nonetheless further Australia’s overseas aid objectives and therefore contribute to Australia’s broad public benefit.

·         1.134 Entities in this category are granted assistance through the Overseas Aid Gift Deductibility Scheme (OAGDS).  Consistent with Australia’s broader overseas aid program, the OAGDS is aimed at development initiatives which aim to improve the wellbeing of whole communities.

·         1.135 The OAGDS has appropriate integrity requirements in place to ensure that this taxpayer funded concession is directed to the causes that it was donated for, and not at risk of being misdirected to inappropriate and unauthorised operations.  These integrity requirements are supported by special administrative arrangements because of the difficulties associated with monitoring activities undertaken outside of Australia.

The Bill also specifically lists in the ‘international affairs’ DGR category the Australian Chamber Orchestra Pty Ltd and the Sydney Dance Company, which are designated international touring organisations.  The Explanatory Memorandum states that the overseas activities of these organisations must remain under 25 per cent of their overall activities.  These specific listings will be reviewed in three years’ time.  (Schedule 3, items 1 to 3, which amend subsection 30-80(2) and section 30-315 of the ITAA).

The application of the ‘in Australia’ rules for entities in the Register of Environmental organisations

Entities on the Register of Environmental Organisations, which the Secretary to the Environment Department determines as being exempt from the ‘in Australia’ special conditions, may also undertake overseas activities under proposed subsection 30-18(7) and proposed section 30-19. Under proposed subsection 30-18(7), such entities satisfy the ‘in Australia’ test if they are established in Australia, as required by proposed paragraph 30-18(1)(a). They do not need to satisfy the tests in proposed paragraphs 30-18(b) and (c), namely, to operate solely in Australia and pursue its purposes solely in Australia, respectively.

The Explanatory Memorandum states that this measure reflects the need for a number of environmental organisations to operate more broadly in order to affect change that will be of benefit to the Australian public.  However, in order to ensure the integrity of the deductible gift recipient regime, an exemption from the ‘in Australia’ conditions will be limited to certain entities listed on the register.[47] 

The application of the ‘in Australia’ rules to certain medical research institutions

Item 23 of Schedule 1 inserts proposed section 30-18 into the Income Tax (Transitional Provisions) Act 1997, to provide a regulation making power, which will operate so that prescribed medical research institutions will satisfy the ‘in Australia’ test if they are established in Australia, as required by proposed paragraph 30-18(1)(a). They will not need to satisfy the tests in proposed paragraphs 30-18(b) and (c), namely, to operate solely in Australia and pursue its purposes solely in Australia, respectively.  Listed organisations will be required to be deductible gift recipients prior to the commencement of this Bill.

The Explanatory Memorandum states that this exception recognises that medical research is an international collaboration activity.[48]

The Explanatory Memorandum also states that a review will be undertaken within three years to examine options for the development of a permanent DGR category for medical research institutions that undertake a significant part of their activities overseas.[49]

Commencement and application

Item 2 in the table in clause 2 of the Bill states that Schedule 1 and Schedule 2 commence on the day after Royal Assent.

Subitem 166(1) of Schedule 1 to the Bill provides that the amendments made by Schedule 1 and Schedule 2 apply to income years starting on or after the commencement of that item (that is, the day after Royal Assent). This means that the earliest year the measures in Schedules 1 and 2 could apply is the income year 2013–14.

Subitems 166(3) and (4) of Schedule 1, read with item 2 in the table in clause 2 of the Bill, provide that if the Commissioner treats an entity under current law as a NFPE, but that entity no longer qualifies as a NFPE due to the changes, that entity will continue to be treated as a NFPE for 12 months from Royal Assent. This will allow such an entity to amend its governing rules in order to qualify as a NFPE.

Item 167 of Schedule 1 provides that any regulations made under the existing legislation and in force before commencement will remain in force under the new law until they are re-made.

Item 4 of Schedule 3, read with item 4 in the table in clause 2 of the Bill, provides that the specific listings of the Australian Chamber Orchestra Pty Ltd and the Sydney Dance Company as international affairs DGRs will apply to gifts made following Royal Assent.

Attachment A

Tax Expenditures 2011 - Deduction of Gifts to DGRs and to Private Ancillary Funds

Tax Expenditures 2011(TES 2011)

Tax Expenditure – Deduction of Gifts to DGRs and to Private Ancillary Funds

Item

2011-12

$m

2012-13

$m

2013-14

$m

2014-15

$m

A 65 - Philanthropy—Deduction of gifts to DGRs

Estimate reliability: Medium—Low

Legislative reference: Division 30 of the ITAA 1997

Gifts of cash and property (subject to certain conditions)

910

970

1050

1120

A 66 - Philanthropy—Deduction of gifts to private Ancillary funds

Estimate reliability: Medium—Low

Legislative reference: Item 2 of the table in section 30-15 of the ITAA 1997

Private ancillary funds allow businesses, families and individuals to establish and donate to a charitable or philanthropic trust. Private ancillary funds have deductible gift recipient (DGR) status.

This means that donations of $2 or more to endorsed private ancillary funds are tax deductible.

Private ancillary funds must disburse funds to DGRs.

140

140

140

140

Source: Australian Government, Tax Expenditures Statement 2011 (TES 2011), Treasury, p. 62, viewed 21 September 2012, http://www.treasury.gov.au/PublicationsAndMedia/Publications/2012/Tax-Expenditures-Statement-2011 viewed 14 September 2012

Attachment B

Tax Expenditures 2011 - Income Tax Exempt Entities including Charities and Not-for-profit Entities

Tax Expenditures 2011(TES 2011)

Income Tax Exempt Entities including Charities and Not-for-profit Entities

Item in TES 2011

2011-12

$m

2012-13

$m

2013-14

$m

2014-15

$m

B21- Income tax exemption for not-for-profit private health insurers

Estimate reliability: Low

Legislative reference: Item 6.3 of the table in section 50-30 of the ITAA 1997

The income of private health insurers covered by the Private Health Insurance Act 2007 is exempt from income tax if the insurer is not operated for the gain or profit of its individuals

125

125

120

120

B22 – Income tax exemption for public hospitals and no-for-profit hospitals

Estimate reliability: Not Applicable -Unquantifiable

Category 2+ is an order of magnitude estimate between $10m and $100m (TES 2011- page 29)

Legislative reference: Items 6.1 and 6.2 in the table in section 50-30 of the ITAA 1997

*

2+

*

2+

*

2+

*

2+

B33 - Philanthropy—Income tax exemption for recreation-type not-for-profit societies

Estimate reliability: Medium

Legislative reference: Sections 50-10 and 50-45 of the ITAA 1997

Subject to certain conditions, the income of recreation-type not-for-profit societies, associations or clubs established for the encouragement of sport or games, music, art, animal racing, literature or for community service purposes is exempt from income tax.

For those not-for-profit societies, associations or clubs to which the mutuality principle applies, this tax expenditure exempts from income tax those amounts that are not already excluded by the ‘mutuality principle’.

20

20

20

20

B63 - Income tax exemption for industry-specific not-for-profit societies and associations

Estimate Reliability: Medium - unquantifiable

Category 3+ is an order of magnitude estimate between $100m and $1000m (TES 2011- page 29)

Legislative reference: Section 50-40 of the ITAA 1997

An income tax exemption applies to the income of industry‑specific not-for-profit societies or associations predominantly devoted to promoting the development of aviation or tourism, or of agricultural, pastoral, horticultural, viticultural, manufacturing or industrial resources of Australia. This expenditure includes the income tax exemption applying to not-for-profit societies or associations established for the purpose of promoting the development of Australian information and communication technology resources.

For those not-for-profit societies, associations or clubs to which the ‘mutuality principle’ applies, this tax expenditure exempts from income tax those amounts that are not already excluded by the ‘mutuality principle’.

*

3+

*

3+

*

3+

*

3+

B67- Income tax exemption for certain non-charitable funds

Estimate reliability: Medium —Low

Included in Item B72 for the exemption, concessional rate applying to Pooled Development Funds (PDFs) in TES 2011.

Order of magnitude for the entirety of PDFs is on average $1.3 m for each of the forward estimate years.

Legislative reference: Section 50-20 of the ITAA 1997

Endorsed non-charitable Public Ancillary Funds and Private Ancillary Funds are exempt from income tax.

Public Ancillary Funds and Private Ancillary Funds must provide money, property and benefits solely to income tax exempt deductible gift recipients (DGRs).

-

-

-

-

B 68 – Philanthropy—Income tax exemption for charitable funds

Estimate reliability: Not applicable

Category 2+ is an order of magnitude estimate between $10m and $100m (TES 2011- page 29)

A note in the TES 2011 adds that the estimates include tax expenditures B71 and B72.

Legislative reference: Sections 50-5, 50-52 and 50-60 of the ITAA 1997

Endorsed charitable funds, including Public Ancillary Funds and Private Ancillary Funds, can claim an income tax exemption where they provide money, property and benefits solely to charities based in Australia, or solely to charitable deductible gift recipients, or to a combination of these.

These funds are prevented from undertaking charitable activities with their funds. They must distribute their funds to other entities that undertake charitable activities.

*

2+

*

2+

*

2+

*

2+

B 69 – Philanthropy—Income tax exemption for charitable, religious, scientific, and community service entities

Estimate Reliability: Not Applicable

Category 4+ is an order of magnitude estimate between $ 1000m+, (TES 2011- page 29)

Legislative reference: Sections 50-5 and 50-10 of the ITAA 1997

The following entities are exempt from income tax:

·         religious, scientific, charitable and public educational institutions and funds

·         funds established to enable scientific research to be conducted by or in conjunction with a public university or public hospital;

·         not-for-profit societies, associations or clubs established for the encouragement of science and

·         societies, associations or clubs established for community service purposes.

Entities must satisfy various conditions to qualify for these exemptions.

*

4+

*

4+

*

4+

*

4+

B70 – Income tax exemption for small non-for –profit companies

Estimate reliability: Very low (estimates rounded to zero – TES 2011, note (a) page 4)

Legislative reference: Subsection 23(6) of the Income Tax Rates Act 1986

The rate of income tax payable by a not-for-profit company that has a taxable income not exceeding $416 in a given income year is nil. Income tax is payable at a rate of 55 per cent on all income of not-for-profit companies that have a taxable income between $416 and $915.

This arrangement has the effect of providing an exemption from income tax for not-for-profit companies for the first $416 of income, and then phasing in the ordinary corporate income tax rate of 30 per cent on all income, including the first $416, when the company has income between $416 and $915. When a not-for-profit company has an income over $915, the company tax rate is applied from the first dollar.

..

..

..

..

B71 Philanthropy — Refund of franking credits for certain income tax exempt philanthropic entities

Estimate Reliability: Medium—High

Category 3+ is an order of magnitude estimate between $ 100 - $1000m+, (TES 2011- page 29)

Legislative reference: Subdivision 207-E of the ITAA 1997

Generally, entities that are not subject to Australian tax cannot benefit from franking credits on distributions from Australian companies.

However, entities that are endorsed as income tax exempt charities or income tax exempt deductible gift recipients are able to claim a refund of franking credits on distributions from Australian companies.

*

3+

*

3+

*

3+

*

3+

Source: Australian Government, Tax expenditures statement 2011 (TES 2011), Treasury, January 2012, p. 62, viewed 14 September 2012, http://www.treasury.gov.au/PublicationsAndMedia/Publications/2012/Tax-Expenditures-Statement-2011

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ISSN 1328-8091

[1].               Explanatory Memorandum, Tax Laws Amendment (Special Conditions for Not-for-profit Concessions) Bill 2012, p. 3, viewed 21 September 2012, http://parlinfo.aph.gov.au/parlInfo/search/display/display.w3p;query=Id%3A%22legislation%2Fems%2Fr4872_ems_d9ef96e7-d941-48ae-bd9d-4a21d5a72a31%22

[2].               Ibid., paragraphs 1.50 and 1.51, p. 12.

[3].               Australian Government, ‘Philanthropy—reforming the ‘in Australia’ requirements that apply to tax exempt entities’, Budget measures: budget paper no. 2: 2009–10, Commonwealth of Australia, Canberra, 2009, p. 29, viewed 4 October 2012, http://www.budget.gov.au/2009-10/content/bp2/html/bp2_revenue-05.htm.

[4].               C Bowen (then Assistant Treasurer and Minister for Competition Policy and Consumer Affairs), Government's interim response to High Court's decision in Word Investments case, media release, no. 043, 12 May 2009, viewed 17 September 2012, http://parlinfo.aph.gov.au/parlInfo/search/display/display.w3p;query=Id%3A%22media%2Fpressrel%2FNPJT6%22

[5].               B Shorten (then Assistant Treasurer and Minister for Financial Services and Superannuation), Next stage for
not-for-profit reforms announced, media release, no. 083, 27 May 2011, viewed 17 September 2012, http://ministers.treasury.gov.au/DisplayDocs.aspx?doc=pressreleases/2011/083.htm&pageID=003&min=brs&Year=2011&DocType=0

[6].               Explanatory Memorandum, paragraph 1.35, p. 10.

[7].               Commissioner of Taxation of the Commonwealth of Australia v Word Investments Limited (2008) 236 CLR 204, [2008] HCA 55 (3 December 2008), viewed 12 September 2012, http://www.austlii.edu.au/au/cases/cth/HCA/2008/55.html

[8].               Explanatory Memorandum, paragraph 1.37, p. 10.

[9].               Ibid., paragraph 1.51, p. 12.

[10].               Financial Action Task Force (FATF), ‘About us’, FATF website, viewed 2 October 2012, http://www.fatf-gafi.org/pages/aboutus/

[11].               Ibid.

[12].               FATF, International standards on combating money laundering and the financing of terrorism and proliferation: the FATF recommendations, France, February 2012, viewed 11 September 2012, http://www.fatf-gafi.org/media/fatf/documents/recommendations/pdfs/FATF%20Recommendations%20(approved%20February%202012)%20reprint%20May%202012%20web%20version.pdf

[13].               FATF, Third mutual evaluation report on anti-money laundering and combating the financing of terrorism, 14 October 2005, paragraph 48, p. 12, viewed 11 September 2012, http://www.fatf-gafi.org/media/fatf/documents/reports/mer/MER%20Australia%20full.pdf

[14].               Explanatory Memorandum, op. cit., paragraph 1.50, p. 12.

[15].               Parliamentary Joint Committee on Corporations and Financial Services, Inquiry into the Australian Charities and Not‑for-profits Commission Bill 2012; Australian Charities and Not-for-profits Commission (Consequential and Transitional) Bill 2012; Tax Laws Amendment (Special Conditions for Not-for-profit Concessions) Bill 2012, Senate, Canberra, 2012, viewed 11 September 2012,

http://www.aph.gov.au/Parliamentary_Business/Committees/Senate_Committees?url=corporations_ctte/charities/index.htm

[16].               Ibid., paragraphs 4.27 to 4.37.

[17].               Ibid., Coalition Members and Senators dissenting report, paragraphs 1.32 and 1.33, p. 66.

[18].               Ibid., Coalition Members and Senators dissenting report, paragraphs 1.35, p. 67.

[19].               Ibid., Additional comments by the Australian Greens, paragraphs 1.2, p. 69.

[20].               Ibid., Additional comments by the Australian Greens, paragraphs 1.30 and 1.31, p. 72.

[21].               Senate Community Affairs Legislation Committee, Inquiry into the Australian Charities and Not-for-profits Commission Bill 2012; Australian Charities and Not-for-profits Commission (Consequential and Transitional) Bill 2012 [and] Tax Laws Amendment (Special Conditions for Not-for-profit Concessions) Bill 2012, Senate, September 2012, viewed 12 September 2012, http://www.aph.gov.au/Parliamentary_Business/Committees/Senate_Committees?url=clac_ctte/charities_commission/index.htm

[22].               Ibid., paragraph 1.2, p. 1.

[23].               Ibid., paragraph 1.9 and 1.10, p. 2.

[24].               Ibid., paragraph 1.17, p. 6.

[25].               Ibid., paragraph 1.19, p. 6.

[26].               Ibid., p. 39.

[27].               Ibid., p. 40.

[28].               Ibid., pp. 39 to 46.

[29].               Ibid., p. 47.

[30].               Ibid., p. 49.

[31].               Ibid., p. 50.

[32].               Ibid., p. 52.

[33].               Ibid., p. 63.

[34].               Ibid., p. 63.

[35].               Ibid., pp. 64 and 65.

[36].               Ibid., p. 65.

[37].               Explanatory Memorandum, p. 4.

[38].               Ibid., paragraphs 1.50 and 1.51, p. 12.

[39].               Income Tax Assessment Act 1997, Division 50, viewed 19 September 2012, http://www.austlii.edu.au/cgi-bin/download.cgi/au/legis/cth/consol_act/itaa1997240

[40].               Australian Taxation Office (ATO), ‘Income tax guide for non-profit organisations’, Endorsement to access charity tax concessions, endorsement process for tax exempt funds and self‑assessment for organisations claiming exemption from income tax, ATO website, 20 June 2012, viewed 19 September 2012, http://www.ato.gov.au/nonprofit/content.aspx?menuid=0&doc=/content/29074.htm&page=3&H3

[41].               Australian Taxation Office (ATO), ‘Income tax guide for non-profit organisations’, ATO website, viewed 19 September 2012, http://www.ato.gov.au/nonprofit/content.aspx?menuid=0&doc=/content/29074.htm&page=5&H5

[42].               New section 50-50 will be inserted into the ITAA 1997 by item 38 of Schedule 1 to the Bill.

[43].               Acts Interpretation Act 1901, section 2B, viewed 21 September 2012, http://www.comlaw.gov.au/Details/C2012C00001/Html/Text#_Toc311805043

[44].               Division 30 of the ITAA 1997 relates to tax deductions for certain gifts or contributions made by a tax-payer.

[45].               Australian Taxation Office (ATO), ‘DGRs - other conditions – GiftPack’, ATO website, 22 June 2011, viewed 21 September 2012,

http://www.ato.gov.au/nonprofit/content.aspx?menuid=0&doc=/content/34516.htm&page=2&H2

[46].               Explanatory Memorandum, paragraphs 1.128 and 129 and examples 1.13 to 1.20, pp. 27 to 29.

[47].               Explanatory Memorandum, paragraph 1.136, p. 30.

[48].               Ibid., paragraph 1.149, p.33.

[49].               Ibid., paragraph 1.150, p.33.