David Kehl, Bernard Pulle, David Richardson and Michael
Emmery
Economics, Commerce and Industrial Relations Group
10 November 1999
Contents
List of Acronyms
Major Issues
Background to the Review
of Business Taxation
Origins of the Review
Terms of Reference and Composition of the Ralph Review
Government's Response to
the Recommendations of the Review
Summary of Government's
Proposals for Business Tax Reform
Introduction of an Entity Tax Regime
and Lowering Company Tax Rate
Reforming the Capital Allowances System and the Removal of
Accelerated Depreciation
Reduction in Capital Gains Tax
Simplified Tax System for Small Business
Broadening Taxation Base of Life Insurers
Improved Anti-Avoidance Measures
Undecided Issues
First Stage Response
Second Stage Response
New Basis for Determining Taxable
Income for Business
Imputation Credits for Foreign Dividend Withholding Tax
Alienation of Personal Services Income
Ongoing Review and Consultation
Draft Legislation
Further Review of Business
Tax Reform Recommended by the Review
Rules for Taxing Foreign Sourced
Income
CFC Measures
Transferor Trust Measures
FIF Measures
Tax Havens-Claims for Deduction of Payments
Record Keeping by Multinational Enterprises (MNEs)
Standardising Record Keeping
Rules
Linking Documentation and the Penalty Regime
Require Record Keeping for Expenditure Incurred in Tax Havens
Record Keeping
An Alternative View of the Fiscal
Impact
The Elasticity of Realisations With
Respect to the Tax Rate
Assumption on Inflation
Reliance on Stage Two Measures to Achieve Revenue Neutrality
The Growth Dividend Assumption
Fiscal Impact of the Abolition of Accelerated Depreciation
Adjusted Assessment of Overall Revenue Impacts
Changes in business income
taxes paid by industries in 2004-05
Who are the beneficiaries of the
trade off of accelerated depreciation for the reduced company tax?
General comments on accelerated
depreciation
Spread of Accelerated Depreciation over Industries
Long-Term Effects of Tax Reform
on Australian Industries
Impacts on selected
sectors
Conclusion
Appendix 1: Terms of
Reference
Objectives
Methods
Outcomes
Appendix 2: Matters ruled
out by the Review and the Government
Alternative Company Minimum Tax
(ACMT)
Appendix 3: Impact on the
Community Services Sector
Commentary by Ms Jacqueline Ohlin,
Research Specialist, Social Policy Group
Appendix 4: Impact on
Primary Producers
Commentary by Mr Peter Hicks,
Research Specialist, Economics, Commerce and Industrial Relations
Group
Appendix 5: Impact on the
Manufacturing Sector
Commentary by Mr Michael Emmery,
Research Specialist, Economics, Commerce and Industrial Relations
Group
Appendix 6: Impact on the
Mining Sector
Commentary by Mr Michael Roarty,
Research Specialist, Science, Technology, Environment and Resources
Group
Appendix 7: Impact on the
Financial Services Sector
Commentary by Mr David Kehl, Research
Specialist, Economics, Commerce and Industrial Relations
Group
Appendix 8: Impact on Small
Business
Commentary by Commentary by Mr
Michael Emmery, Research Specialist Economics, Commerce and
Industrial Relations Group
Appendix 9: Impact on
Research and Development
Commentary by Dr Rod Panter, Research
Specialist, Science, Technology, Environment and Resources
Group
Appendix 10: Impact of the
Reduction in Capital Gains Tax
Commentary by Mr David Kehl, Research
Specialist, Economics, Commerce and Industrial Relations
Group
Appendix 11: Project
Selection and the Switch from Accelerated Depreciation to Lower
Company Tax
Commentary by Mr David Richardson,
Research Specialist Economics, Commerce and Industrial Relations
Group
Endnotes
List of Acronyms
RBT
|
Review of Business Taxation
|
CIV
|
Collective investment vehicle
|
CGT
|
Capital gains tax
|
ATO
|
Australian Taxation Office
|
ANTS
|
A New Tax System
|
DWT
|
Dividend withholding tax
|
GST
|
Goods and services tax
|
ACMT
|
Alternative company minimum Tax
|
CFC
|
Controlled foreign company
|
FIF
|
Foreign investment fund
|
MNE
|
Multinational enterprise
|
GDP
|
Gross domestic product
|
NBTS
|
New Business Tax System
|
R&D
|
Research and development
|
ASFA
|
Association of Superannuation Funds of
Australia
|
IFSA
|
Investment and Financial Services
Association
|
COSBOA
|
Council of Small Business Organisations of
Australia
|
ACOSS
|
Australian Council of Social Service
|
Major
Issues
The purpose of this paper is to provide a critical assessment of
the fiscal consequences of the Government's responses to the Ralph
Review of Business Taxation; it also examines the impact of these
proposals on industry.
The Government's proposals are of considerable significance from
an immediate budgetary and economic perspective. They could also
have major long term implications for the sustainability of
Australia's public sector finances, household taxation levels and
the affordability of public services should their underlying
premises and assumptions fail to be fully realised upon
application.
To date the Government's proposals on business taxation reform
have not attracted the same high level of public debate and
analysis that was apparent in relation to the other major planks of
the Government's tax reform agenda, namely the reform of indirect
taxation and of the personal income tax system. The perceived
benefits of the proposals have been set out in the official
documentation and are not dealt with at length in this publication.
Rather this paper sets out to critically examine some of the
underlying economic assumptions behind the proposals and its
broader industry implications.
The Government has vigorously argued that its business tax
reform initiatives will benefit Australia by:
-
- taking Australia into the next century with a modern,
competitive and fair taxation system.
-
- creating the environment for achieving higher economic growth,
more jobs, and improved savings.
-
- providing a sustainable revenue base so that the Government can
continue to deliver services for the community.(1)
This paper does not address the issues of the competitiveness of
Australia's business tax system under the proposed regime nor the
extent to which the proposals will create additional jobs and
savings. Nor does it address the equity issues arising from the
Government's response to the Ralph Review. Its main focus is on the
fiscal impact of the proposals as this has been one of the primary
interests of the Parliamentary debate so far. In addressing the
fiscal impacts, the paper questions the assumptions underlying the
estimated revenue effects of the proposed cuts in the capital gains
tax rate. It also points to an absence of publicly documented
economic modelling to support the revenue growth dividend predicted
in the Ralph Report; raising questions over the assumptions behind
the Review's assessment of the revenue implications of abolishing
accelerated depreciation. The analysis in this paper suggests that
the Government's objective of revenue neutrality may be at risk of
being compromised as a number of the assumptions behind the Ralph
Review analysis are questioned.
The paper observes that the Parliament's capacity to review and
assess the Government's proposals on business tax reform have been
inhibited so far by the deferral of the Government's announcement
of a range of significant measures which comprise Stage 2 of the
Government's response to the Ralph Review. In the absence of any
articulation of its Stage 2 measures, the Parliament is compromised
in its capacity to respond to Stage 1, particularly as the
Government has indicated that the revenue neutrality of the overall
package is heavily reliant on Stage 2 measures.
In addressing the industry impacts of the Government's
proposals, the paper observes that whereas the ANTS II package
delivered major benefits of cost reduction across industry
generally, the main beneficiaries of the Government's proposals
stemming from the Ralph Review are the finance and insurance
sectors. The paper questions the macro-economic stimulatory effects
of these benefits given that the demand for insurance and financial
services is primarily a 'derived demand', i e. one which is heavily
dependent on the level of demand in industries which call on the
services of the insurance and finance sectors.
The paper concludes with discussions of the
impact of the New Business Tax System on selected industry sectors
noting:
-
- that there has been very little comment about the effects of
the proposed measures on the community services sector
-
- that primary producers have emerged relatively unscathed by
retaining existing concessions
-
- that despite initial press commentary that the manufacturing
sector would be a looser from the proposed reforms, this does not
appear to be the case
-
- the significant changes to the taxation arrangements would
apply to the mining sector
-
- that although the finance services sector will receive a major
boost from the proposed arrangements life insurance companies have
not been critical of the proposed changes even though they will
increase their company tax by an additional $500 million per
year
-
- the favourable treatment given to the small business sector by
the proposed measures
-
- that while the changes to capital gains tax may attract
additional venture capital, research and development were not a
major concern for the review
-
- that capital gains tax is going to become more complicated,
that investors may prefer growth investments over income producing
investments, that 'mum and dad' investors may not benefit from the
proposals, and that the abolition of indexation may result in
taxpayers paying capital gains tax on capital losses
-
- the impact on project selection and the switch from accelerated
depreciation to lower company tax, and through the use of a
hypothetical example, how project selection might be changed under
the proposed arrangements
The reader is also referred to the Information and Research
Service's compilation titled 'Ralph Review of Business Taxation',
Current Comment No 1 1999-2000, which contains a useful
selection of articles and commentary, many of which are referred to
in this publication.
Background to the Review of
Business Taxation
Origins of
the Review
The Howard Government's taxation reform agenda has three major
elements:
-
- the reform of the indirect tax system as addressed in the ANTS
(A New Tax System) package
-
- including the introduction of a broadbased goods and services
tax levied at a rate of 10 per cent with limited exemptions for
some foods
-
- the abolition of wholesale sales tax
-
- reductions in fuel excises for petrol and diesel, and
-
- the abolition of Financial Institutions Duty
- changes to the taxation of business entities as announced in
A New Tax System
-
- including taxing trusts as companies
-
- the introduction of a deferred company tax
-
- the introduction of refundable imputation credits, and
-
- measures affecting the life insurance industry.
- changes to business taxation arrangements which the Government
announced in response to the Review of Business Taxation (the Ralph
Review) on 21 September 1999.
On 13 August 1998 the Government announced proposals for A New
Tax System (ANTS), which included the introduction of a Goods and
Service Tax. The ANTS package set out plans for the reform of
business taxes on two fronts:
-
- applying a framework of redesigned company taxation
arrangements consistently to all limited liability entities,
and
-
- considering the scope for more consistent taxation treatment of
business investments with the prospect of achieving a 30 per
cent company tax rate and further capital gains tax relief.(2)
On 14 August 1998 the Treasurer announced that the Government
had decided to undertake a comprehensive review of the taxation of
business on the lines proposed in the ANTS package(3). The
Treasurer specified that its recommendations should be within the
guidelines in ANTS I and should also be revenue neutral. Some of
the measures in ANTS I were subsequently revised in agreement with
the Australian Democrats before the passage of legislation to
reform the indirect tax system (ANTS II). On 21 September 1999 the
Treasurer announced measures for A New Business Tax System based on
some of the recommendations in the Report of the Review.
Terms of Reference and Composition of
the Ralph Review
The Review's Terms of Reference are reproduced at Appendix I. It
is noteworthy that as part of the agreement the Government
concluded with the Australian Democrats to implement the ANTS
package (ANTS II) and with it the introduction of the GST, the
Treasurer agreed to refer to the Review for its consideration:
-
- the adoption of a 20 per cent alternative minimum company tax
(AMCT)
-
- measures to limit the use of company structures for personal
services, and
-
- a review of the treatment of motor vehicle fringe
benefits.
The Review's composition and modus operandi was as follows:
-
- Chair: Mr John Ralph, AO.
-
- other members: Mr Rick Allert, AM, and Mr Bob Joss.
-
- The Review could call on the expertise of both the public and
private sectors and academic tax experts.
-
- Mr Ralph was to be assisted by the Tax Reform Task Force
located in the Treasury.
-
- The Review was to report by 31 March 1999 to allow a reasonable
time period for consultation with the business community, to allow
draft legislation to be subject to consultative input from business
and for the legislation to have effect from 1 July 2000. The
deadline for the submission of the report was later extended to 30
July 1999.
-
- The Review was to be open and transparent.
-
- Outlines of the preliminary work done by the review are set out
in the Information and Research Service's Current Comment No 1
1999-2000.
Government's Response to the
Recommendations of the Review
The report of the Review of Business Taxation (the Review)
entitled A Tax System Redesigned (the Report) was given to
the Treasurer on 30 July 1999. The Treasurer released the Report
and announced the Government's responses to the recommendations in
Press Release No. 58 of 21 September 1999 titled The
New Business Tax System. The Press Releases and other
documents(4) released by the Treasurer on 21 September 1999 are
available on the Treasury Website http://www.treasury.gov.au.
The Treasurer stated that the business tax reforms announced by
the Government represented the first part of a two-stage
consideration of the Review's recommendations. He added that the
proposed reforms were broadly revenue neutral in 2000-01 and that
the Government's consideration of the remainder of the Review's
recommendations will be guided by the objective of achieving a
broadly revenue neutral outcome from business tax reform in later
years.
Summary of Government's Proposals for Business
Tax Reform
The following key changes to the tax system were announced.
Introduction
of an Entity Tax Regime and Lowering Company Tax Rate
The entity tax arrangements outlined in the A New Tax
System (ANTS), will commence on 1 July 2001. This will include
the taxation of trusts like companies.
The deferred company tax proposed in ANTS will not be
implemented and instead the inter-corporate dividend rebate will be
terminated.
The company tax rate will be lowered from 36 per cent to 34 per
cent for the 2000-01 income tax year and to 30 per cent
thereafter.
This rate will apply to other entities taxed like companies when
the entity tax regime is introduced from 1 July 2001.(5)
The Review's recommendation for minimum tax arrangements for
companies was not accepted by the Government.
Excess imputation credits will be refunded to resident
individuals, complying superannuation funds and to registered
charities where imputation credits are attached to donations by way
of trust distributions.
Reforming
the Capital Allowances System and the Removal of Accelerated
Depreciation(6)
The removal of accelerated depreciation and moving to effective
life depreciation took effect from 11:45 am AEST 21 September
1999.
Small business taxpayers will retain access to accelerated
depreciation until 1 July 2001.
Introduction of a simplified depreciation scheme for small
business to be able to write off assets costing less than $1000
immediately and to pool all other depreciable assets with an
effective life of less than 25 years to be depreciated at 30 per
cent.
The current special rates for primary producer assets, such as
horticultural plants, water and landcare assets, and the current
treatment of expenditure on research and development and on
Australian films will remain unchanged.
Reduction in
Capital Gains Tax
Only 50 per cent of net nominal capital gains of individuals
will be taxed with effect from 1 October 1999 with the result that
the highest rate of tax for individuals will effectively be 24.25
per cent.(7)
Only two thirds of the net nominal capital gains of
superannuation funds will be taxed with effect from 1 October 1999
resulting in a concessional tax rate of 10 per cent.(8)
Indexation will be frozen at 30 September 1999 for all
taxpayers.
Averaging provisions were to be no longer available on the
disposal of assets after 11.45 am AEST on 21 September 1999.(9)
Small business capital gains tax concessions are increased by
replacing the 50 per cent capital gains tax goodwill exemption with
a 50 per cent capital gains tax exemption for all active assets.
When combined with the general 50 per cent exclusion of capital
gains individuals owning small business will be liable to tax on a
maximum of 25 per cent of the gains when they sell business assets.
This measure applies to capital gains tax events from 21 September
1999.(10)
Full exemption from capital gains tax is provided for a business
asset that has been held continuously for 15 years and where the
taxpayer is over 55 of age and intends to retire, or is
incapacitated. These measures would apply to capital gains tax
events on or after 20 September 2000.(11)
Roll-over relief is provided for scrip-for-scrip takeovers
between companies and trusts (whether widely held or private
entities). This measure will commence on the date of Royal Assent
of the legislation.(12)
Exemption is provided for capital gains earned through Pooled
Development Funds by Australian superannuation funds. This measure
commences on the date of Royal Assent of the legislation.(13)
Exempt from capital gains tax is provided for investments in
venture capital projects in Australia by non-resident tax exempt
pension funds, such as the US and UK pension funds. This measure
commences on the date of Royal Assent of the legislation.(14)
Simplified
Tax System for Small Business
The introduction of a Simplified Tax System with
effect from 1 July 2001 was foreshadowed to reduce the compliance
burden for small business with an annual turnover of less than
$1 million.(15) It includes:
-
- the option of cash accounting where income and expense will be
recognised only when they are received or paid respectively
-
- a simplified depreciation scheme to be able to write off assets
costing less than $1000 immediately and to pool all other
depreciable assets with an effective life of less than 25 years to
be depreciated at 30 per cent
-
- simplified treatment of trading stock as an alternative to an
annual requirement for stock taking and stock valuation.
Broadening
Taxation Base of Life Insurers
The taxation base of life insurers will be broadened so that all
profit from funds management, underwriting and other life insurance
and immediate annuity business is taxed. Under the new arrangements
commencing from 1 July 2000:
-
- risk business (i.e. term insurance that does not have an
investment component) will be taxed on the same basis as the risk
business of general insurers (i.e. general insurers are taxed on
their premium income)
-
- investment business will be taxed on the same basis as the
investment business of other entities 3/4 but not like collective
investment vehicles, and
-
- complying superannuation business of life insurers will be
taxed on the same basis as pooled superannuation trusts
(PSTs).
Improved
Anti-Avoidance Measures
The following measures to reinforce the integrity of the tax
system were announced:
-
- non-commercial loans from owners to closely held entities will
be treated as equity (16)
-
- current defects and anomalies in the treatment of entity losses
and value shifting will be addressed to protect the revenue base
and integrity of the business tax system(17)
-
- the full consideration received on disposing of interests in
leased plant or leases will be included in assessable income. The
need for this integrity measure was highlighted in the discussion
paper A Platform for Consultation released on 22 February
1999.(18)
Undecided Issues
The Treasurer announced that the Government's response to the
Review will be in two stages, with a phased implementation. He
added that some of the recommendations will be given further
consideration. The Review had suggested that some matters be the
subject of further review as the Review did not have sufficient
time to examine the implications of these matters.
First Stage
Response
The measures listed in the paragraph Summary of
Government's Proposals for Business Tax Reform summarises
the first stage response to the recommendations of the Review. As
will be seen from that paragraph the implementation of those
measures has been slowed.
Second Stage
Response
The Treasure also announced on 21 September 1999 that the
Government will consider the remaining recommendations of the
Review in more detail over the coming months and will announce its
response in a second stage. It is expected that the second stage
measures recommended by the Report would be adopted to reduce the
cost of the package in the outyears in accordance with the goal of
revenue neutrality. The matters for consideration in the Second
Stage include the following.
New Basis for
Determining Taxable Income for Business
The Review recommended that to achieve a more
robust and durable tax system, taxable income be calculated on the
basis of cash flows and changing tax values of assets and
liabilities - with increasing and decreasing adjustments to reflect
tax policy effects. It added that the cash flow/tax value approach
be reflected in tax law.(19)
Pointing out the need for a new approach for
business taxation the Report noted that the existing law is based
on legal concepts of income that have evolved over many years.
Central to it are the concepts of ordinary income, statutory income
including capital gains, and expenses and losses of either a
'revenue' or 'capital' nature.
As a consequence of the evolution of the existing law, assets
may be taxed in a variety of ways depending on the purpose for
which they are held. This creates uncertainty and complexity in the
law, of the kind illustrated in the Review's first discussion
paper, A Strong Foundation.
To distinguish expenses consumed in a tax year from expenses
that essentially involve a conversion from one type of asset to
another, the existing tax system uses the concept of capital
expenditure. The absence of statutory principles guiding that
differentiation has resulted in uncertainty and led to the
mis-characterisation of some expenses.
Ralph argues that whether business expenditures are recognised
for income tax purposes and, if recognised, the timing of their
deductibility now depends more on the historical development of the
law than on clearly enunciated principles. In particular, he also
argues that the treatment of the changing values of different
categories of assets and liabilities has been grafted into the law
in an uncoordinated and thus non-comprehensive way.
The Review took the view that a more coherent and durable
legislative basis for determining taxable income is essential to
reducing uncertainty and complexity in the present system. That
redesigned tax law would underpin a more consistent, transparent
and sustainable tax system. Having a structure which is more
enduring and robust, and which can flexibly accommodate future
changes, has much to commend it. Of itself, it will not imply a
broadening of the tax base; variations to the base should occur
only by express intention.(20)
The Treasurer confirmed that second stage measures will include
the Review's recommendation for a fundamental change in the method
of determining taxable income for business. He added that the
Government sees the merits of this approach and will be considering
it further but with no new arrangements until 1 July 2001. That
timing reflects concern for the ability of business to cope with
the administration of the GST.
Imputation Credits for Foreign Dividend
Withholding Tax
Under the current arrangements Australian residents can claim a
credit for dividend withholding tax paid on dividends derived
directly from a foreign company. In contrast, Australian based
multinationals cannot pass onto shareholders a credit for foreign
withholding tax paid on dividends derived from a foreign
subsidiary. This discourages Australian multinationals from
repatriating profits to Australia and this issue will increase in
significance as Australian operations continue to expand offshore.
The Review therefore recommended that imputation credits up to 15
per cent of repatriated dividends be provided for foreign dividend
withholding tax (DWT) paid, including for DWT paid on repatriated
exempt dividends.(21)
The Treasurer announced that the Government will be looking at
the Review's recommendation to provide imputation credits for
foreign dividend withholding tax up to 15 per cent, from 1 July
2001.
Alienation of
Personal Services Income
The Treasurer stated that the Government will give close
consideration to other issues raised in the Review, such as the
recommendations dealing with the alienation of personal services
income and non-commercial losses.
Ongoing
Review and Consultation
The Government will also maintain the more integrated and
consultative arrangements that have been central to the Review of
Business Taxation. In particular the Government will establish an
ongoing, non-statutory Advisory Board which would allow access to
private sector expertise on a regular basis, not only on business
tax but on all aspects of tax law. Details are to be announced in
due course.
Draft
Legislation
The Review had prepared draft legislation and explanatory notes
as part of the Report to illustrate the type of legislative product
achievable from more integrated design processes and a more
principle-based legislative framework.
The Treasurer added that this draft legislation does not relate
to the measures having effect from either 22 February 1999,
21 September 1999, 1 October 1999 or from Royal
Assent. Legislation on these measures will be introduced into the
Parliament as soon as possible. The draft legislation is designed
to illustrate what is achievable in terms of simplicity under high
level reform.
Matters ruled out by the Review and the Government are detailed
in Appendix 2.
Further Review of Business Tax Reform
Recommended by the Review
Section 23 of the report deals with improving Australia's
international tax regime and recommends further review. The three
aspects to be further reviewed are:
-
- rules for taxing foreign sourced income
-
- tax havens-claims for deduction of payments
-
- record keeping by multinational enterprises.
The issues for further review have an important bearing on tax
minimisation schemes and are discussed in more detail below.
Rules for Taxing Foreign Sourced
Income
Currently the tax law has the controlled foreign company (CFC)
rules, the transferor tax rules and the foreign investment fund
(FIF) rules to prevent tax minimisation in relation to foreign
source income.
CFC Measures
The CFC measures apply to shareholdings in foreign companies
that are controlled by Australian residents. Under the CFC measures
resident shareholders are taxed on their pro rata share of certain
income of CFCs called 'tainted income' as it is earned. These
measures are intended to prevent tax deferral. Examples of 'tainted
income' include interest, royalties, dividends and amounts arising
from certain related party transactions.
Active income of CFCs, which is income other than tainted income
is generally exempt from the CFC measures to enable Australian
based multinationals to compete effectively offshore.
Transferor Trust
Measures
These measures apply to Australian residents who have directly
or indirectly transferred value to a foreign trust. The transferors
are treated as controllers and generally taxed on the undistributed
profits of a trust and an exemption is provided for amounts that
have been comparably taxed offshore. An interest charge also
applies to distributions to residents from a foreign trust to the
extent that the distribution is made from low taxed profits
accumulated offshore.
FIF Measures
The FIF measures apply to resident taxpayers that have an
interest in a non-controlled foreign company or trust. The measures
are intended to ascribe to a resident taxpayer the share of
undistributed profits of an FIF for taxation purposes. The FIF
measures are not effective in preventing tax deferral for interests
in discretionary trusts. The transferor tax measures are the rules
that can effectively deal with interests in these trusts.
These are very complex rules and the Review records that against
its timeframe for reporting it was precluded from undertaking a
detailed examination of these rules.
The Review has therefore recommended that there be a
comprehensive review of the above foreign source income rules.
Tax Havens-Claims for Deduction of
Payments
The Review left, for further review, the method of dealing with
claims for deduction of payments to entities in tax havens that are
unsupported by proper documentation.
The Review noted that in many tax havens, bank secrecy and other
laws prevent revenue authorities from verifying the purpose of
payments to tax havens. It considered such verification necessary
whether such amounts were in fact returned to the person making the
payment or to an associate of that person.
Two options for dealing with the problem of fictitious
transactions with entities in tax havens were outlined by the
Review.
Legislation could provide for:
- either the disallowance of a deduction
- or the imposition of a withholding tax
where all records are not available to support the economic
purpose of the payment to the tax haven.
The Review notes that in the United States the legislation
provides for the Secretary to the Treasury to determine in writing
that certain interest payments are subject to the United States'
higher levels of withholding tax where the interest is paid to a
person in a country which has inadequate exchange of information
arrangements with the United States.
Record Keeping by Multinational
Enterprises (MNEs)
A Platform for Consultation highlighted the inadequacy
as well as the inability of the tax administration to access
records kept overseas by companies with international
transactions.
There is a need for an appropriate balance to be
struck in record keeping requirements, including in an
international context. From the point of view of business, the need
to keep records in different forms in different languages in many
locations can be a very significant and costly undertaking. On the
other hand, inappropriate records can effectively deny countries
their legitimate amount of tax. There have been examples of cases
where records are effectively denied to the tax administration by
keeping them overseas and/or in an inaccessible form.
For many large multinational enterprises (MNEs)
an advance pricing agreement offers a mechanism for cooperatively
reducing the record keeping burden in conjunction with the revenue
authorities involved.(22)
Standardising
Record Keeping Rules
One option for minimising Australia's record keeping
requirements in relation to international transactions, and
especially transfer pricing, would be to seek greater
standardisation of requirements with our major trading partners. Of
these trading partners, the United States has by far the most
detailed and advanced rules. MNEs trading with the
United States may maintain such information and hence similar
Australian requirements should not be a significant burden for
those MNEs. Such rules may, however, create problems for MNEs not
dealing with the United States and could be very onerous on small
and medium enterprises. In such cases, a minimalist approach may be
more appropriate (that is, the minimum needed to make a reasonable
assessment of compliance and to properly apply the law).
Linking Documentation and the Penalty
Regime
The failure to keep contemporaneous records makes it extremely
difficult for taxpayers and the ATO to satisfactorily resolve
disputes. The United States has linked inadequate
contemporaneous documentation to penalties and, from the point of
view of their tax administration, this has been an important factor
in improving compliance. In Australia, such a requirement could be
incorporated into a simplified penalty regime to the effect that a
taxpayer without adequate documentation does not have a reasonably
arguable position for the purposes of penalty reduction.
Require Record
Keeping for Expenditure Incurred in Tax Havens
A major feature of tax havens is the active promotion of their
secrecy laws to entice individuals and corporations to do business,
or to execute financial and commercial transactions, in their
jurisdictions. The secrecy laws of tax havens facilitate the
concealment of assets, activities, income sources, records and
documentation from tax administrations. These secrecy laws,
including bank secrecy laws, facilitate tax avoidance and evasion
and therefore threaten the integrity of the tax base of other
countries including Australia.
An approach to counter the use of low tax countries would be to
deny a tax deduction or levy additional withholding tax for certain
payments to tax haven entities if certain information is not made
available. This option could be imposed where the taxpayer does not
have evidence that the transaction has a substantive economic
purpose and where the dealings between Australia and the tax haven
are not transparent.
In the United States provision is made for the Secretary of the
Treasury to provide in writing (and publish a statement) that
certain payments of interest will be subject to the
United States' general 30 per cent withholding tax where
interest is paid to a person or on behalf of a person within a
foreign country that the Secretary has determined has inadequate
exchange of information arrangements with the
United States.
Record Keeping
The review of record keeping in relation to international
transactions was recommended to implement measures to ensure
business entities keep appropriate documentation to verify income
and deductions.(23) This has particular significance for transfer
pricing in relation to multinational enterprises (MNEs). In A
Platform for Consultation it was pointed out that Australia
could improve record keeping requirements in relation to
international transactions, and especially transfer pricing, by
seeking greater standardisation of our requirements with those of
our major trading partners. It added:
Of these trading partners, the United States
rules are by far the most detailed and advanced. MNEs trading with
the United States may maintain such information and hence similar
Australian requirements should not be a significant burden for
those MNEs. Such rules may, however create problems for MNEs not
dealing with the United States and could be very onerous on small
and medium enterprises. In such cases, a minimalist approach may be
more appropriate (that is, the minimum needed to make a reasonable
assessment of compliance and to properly apply the law).(24)
The Report of the Review observes that consultation and
submissions noted that the US rules were quite onerous and so
should not be used as a basis of record keeping in Australia.
Given the increased move towards globalisation, the perception
of equity in the tax system will not be enhanced by knowledge that
the record keeping requirements for business in place in Australia
are deficient. All other measures to prevent profit shifting and
value shifting would be of no avail if the basic record keeping
system is incapable of ensuring that income and deductions are
properly recorded and are verifiable. A reform measure which puts
in place an effective record keeping system to verify international
transactions would be a quantum leap in protecting the tax base as
well as enhancing the equity of the tax system.
An Alternative
View of the Fiscal Impact
The Ralph Review was asked to bring forward a revenue neutral
package of business tax measures. Revenue neutrality is important,
without that the Ralph measures would involve a redistribution of
income to or from the household sector. That in turn would
necessarily interfere with the previous agreements on the various
measures included in ANTS II.
The following table sets out the fiscal impact of the response
to Ralph as claimed by the Government. On these figures, the
Government's assessment is that the measures are roughly revenue
neutral over the coming years.
Table 1: Fiscal impact of Ralph tax measures
($m)
|
1999-00
|
2000-01
|
2001-02
|
2002-03
|
2003-04
|
2004-05
|
Impact over 6 years
|
Measure
|
|
|
|
|
|
|
|
Lower company tax rate
|
-60
|
-1260
|
-3480
|
-3140
|
-3090
|
-3410
|
-14440
|
Changes to entity measures
|
-100
|
-430
|
-1040
|
-490
|
-690
|
-550
|
-3300
|
Depreciation and small business measures
|
40
|
1210
|
2240
|
2190
|
2440
|
2070
|
10190
|
Capital gains tax measures
|
0
|
130
|
150
|
80
|
40
|
-50
|
350
|
Integrity measures
|
20
|
390
|
540
|
580
|
630
|
620
|
2780
|
Growth dividend
|
0
|
30
|
50
|
100
|
150
|
250
|
580
|
Announced measures
|
-110
|
70
|
-1530
|
-670
|
-520
|
-1060
|
-3820
|
Impact of deferred measures
|
0
|
470
|
820
|
950
|
940
|
1040
|
4220
|
Total impact
|
-110
|
540
|
-710
|
270
|
420
|
-20
|
390
|
Source: The Treasurer, Hon. P. Costello, Press Release, The
New Business Tax System, 21 September 1999.
Each of the above categories raises a number of issues that
might be discussed. The main focus here is the validity of the
Government's estimates as presented in Table 1. The reduction in
the company tax rate implies a transfer of well over $3 billion to
the corporate sector. The other main measure being discussed in the
lead up to Ralph, abolition of accelerated depreciation, claws back
over $2 billion in each of the years 2001-02 to
2004-05. This was the main trade off being discussed in the press
and elsewhere-a lower company tax rate in exchange for scrapping
accelerated depreciation.
The abolition of accelerated depreciation is only a bringing
forward of future tax collections. (Accelerated depreciation does
not give the taxpayer new concessions, rather it brings forward the
tax benefits of future depreciation claims.) With time the $2
billion increase in revenue disappears and with it goes the
approximate revenue neutrality of the Ralph proposals. This is
taken up below.
The economic effect of the abolition of accelerated depreciation
is addressed in the section 'Impacts on selected sectors' (below).
However, the Treasurer did leave open the possibility of a
successor to accelerated depreciation when he said:
Recognising the potential impact of removing
accelerated depreciation on large capital intensive projects with
long lives, the Government will be prepared to consider such
projects in the context of an expanded strategic investment
coordination process, including consideration of the option of
targeted investment allowances.(25)
No further details are given. However, the clear implication is
that instead of a universally applicable scheme for all investors,
the successor to accelerated depreciation will be applied on an ad
hoc basis, if at all. No indicative costing has been provided by
the Government.
Another important measure from a public finance perspective is
the proposed package of changes to the capital gains tax. The exact
changes are described elsewhere in this report. However, the
dominant issue is the halving of the tax rate. To estimate the
effect of changes to the capital gains tax, the Ralph Report relied
upon some earlier American estimates of the elasticity of
realisations [of capital gains] with respect to variations in the
tax rate as reported in research provided to the Ralph Review by
the Stock Exchange, but unfortunately not made public.
The Elasticity of Realisations With
Respect to the Tax Rate
The elasticity of realisations with respect to the tax rate is
the proportionate change in the annual realisations of capital
gains divided by the proportionate change in the tax rate. That
would be given by the percentage change in realisations divided by
the percentage change in the tax rate. Because the capital gains
tax is triggered by actual realised capital gains it is expected
that the realisations and the tax rate would move in opposite
directions. That is, a cut in rates would give an increase in
realisations, at least in the short run. For that reason the
estimated value of the elasticity is usually quoted as a negative
number.
The stock exchange research suggested a long-term elasticity of
more than minus 0.9. Ralph uses the same figure as the long run
estimate with an even higher elasticity of realisations in the
short run. This seems to be the main reason why the fiscal impact
of the capital gains tax changes is an estimated increase in
capital gains tax collections of $130 million in 2000-01, $150
million in 2001-02 with slightly less in subsequent years.
Increasing tax collections following cuts in taxes reminds
us of some of the American debates in the early 1980s associated
with the 'Laffer curve' which purported to show that beyond a
certain point increases in taxes were associated with
reductions in tax collections. The Laffer curve became an
important element in the thinking behind 'supply side economics,' a
doctrine that basically said that tax cuts and other measures to
increase incentives were required to boost economic growth.(26)
This estimate of a long run elasticity of the tax base with
respect to the tax rate at around minus one is very hard to
justify. If it were exactly minus one, then any variation in the
tax rate would be followed by an equal and opposite proportionate
change in the tax base. In that way the government would collect
the same volume of tax no matter what rate it set.
Dr Gravelle of the US Congressional Research Service has looked
at the relationship between capital gains tax collections and tax
rates over many years. She is reported to have said that:
'based on these data, I think that a very small
elasticity or a static assumption for the long run would provide a
more accurate forecast [of revenue changes]. I have no idea what
one would assume about the short run response. I don't think there
are any data sets that really help with that number.'(27)
Doubts about estimated elasticities should normally suggest
caution. Normally Government estimates of the budgetary impacts of
changes in revenue arrangements (or indeed outlay arrangements) are
calculated on the basis that there is no change in underlying
behaviour. That sensible and cautious approach ensures that revenue
measures are not based on speculative assessments of behavioural
responses to particular measures. In a memorandum to all
departments and agencies prior to the 1999-00 Budget, the
Department of Finance and Administration required that 'assumptions
and methodology underlying the costings are robust and credible,
including that there is a sensible relation between expenses and
cash flows.'(28) The memorandum also refers to instructions sent
out in the Operational Rules in Estimates Memorandum 1998/28.
Unfortunately, Memorandum 1998/28 is classified
'Cabinet-in-Confidence' and could not be consulted.
Even if we could be sure that capital gains tax receipts would
increase, there would remain the concern that the increase would be
at the expense of taxation on other forms of income. That could
reflect people's attempts to disguise other income as capital gains
to exploit the different rates on capital gains. It is also
important to note that the Ralph Report expects some of this type
of activity to occur 'from an expected tendency for some returns to
investment to be taken as capital gains rather than as ordinary
income. For example, there will be an increased incentive for
shareholders to realise capital gains on shares rather than to
receive income as dividends.'(29) Ralph does not refer to this as
'avoidance,' however, the 'cost [to revenue] of converting ordinary
income to capital gains' was estimated to be $20 million in 2000-01
rising to $180 million in 2004-05. This seems to be a rather modest
estimate given that there are no new proposals designed to prevent
the type of avoidance that would be encouraged with lower taxes on
capital gains.
Assumption on Inflation
Before leaving the capital gains tax issue it needs to be
observed that our comments and the analysis underlying the Ralph
Report are predicated on the assumption that inflation will remain
at around present levels. If inflation were to return to
double-digit rates then the proposal to ignore inflation when
taxing capital gains would become a very important issue. As a
consequence, high inflation scenarios can be envisaged under which
the proposed capital gains tax would raise more revenue than the
present system, even without any problematic behavioural
assumptions. Nevertheless, for the moment revenue increases due to
problematic behavioural assumptions cannot be accepted.
Reliance on Stage Two Measures to
Achieve Revenue Neutrality
Other uncertain revenue measures which are significant to the
achievement of the Government's goal of revenue neutrality are
those initiatives yet to be announced under the Government's Stage
2 response to the Ralph proposals. These so called 'deferred
measures' are expected to raise between $0.47 billion and $1.04
billion per annum between 2000-01 and 2004-05 according to the
Treasurer's announcement on 21 September 1999.
With the revenue that the Government 'pencils in' for second
stage measures the whole package raises net additional revenue of
$390 million over the six years 1999-00 to 2004-05 inclusive.
Without the second stage measures the impact over those six years
is a revenue loss of $3.8 billion. Thus the fiscal implications of
the overall package are very dependent on decisions yet to be made
even though the Parliament has been addressing the already
announced features of the package since September. It is evident
that the capacity of the Parliament to review and assess the
Government's proposals has been compromised so far by the lack of
any detailed articulation of the Government's Stage 2 responses and
their implications for revenue.
The Growth Dividend Assumption
As can also be seen from Table 1, the Government expects a
'growth dividend' by way of an eventual increase in annual Gross
Domestic Product (GDP) of 0.75 per cent by 2009-10. This is
expected to generate revenues which gradually increase to reach
$150 million in 2003-04. This reflects views expressed in the Ralph
Report to the effect that a 0.75 per cent increase in GDP is a
conservative estimate of the likely beneficial effect of the
package. However, there is no economic research cited to support
that view. In the absence of a strong case the Ralph Report's
growth dividend must remain largely a matter of faith. Moreover,
the Ralph Report says:
The Review has not commissioned a study of the
likely impact of the proposed business tax reforms on Australia's
economic growth. Such studies typically involve models requiring a
large number of assumptions that are difficult to validate.(30)
That is of course entirely correct. However, using a model
forces the modeller to make explicit any assumptions that lead to
the model's results. The model is merely a systematic formalisation
of the modeller's view of how the economy works. It is a means of
laying bare the logic behind that view. It is reasonable to expect
that the authors of the Ralph Report would therefore have supported
their case that their proposed reforms would increase GDP with some
logical model of cause and effect between economic reform and GDP.
It is certainly not in the interests of transparency for their own
logic to remain concealed where the Parliament and the public
generally cannot validate the assumptions behind their thinking. A
formal mathematical model is not necessarily required, just a
logical argument in support of the conclusion would suffice. It
should be pointed out that the Ralph Review was prepared to use
economic modelling to examine inter-industry impacts despite their
inevitable use of 'assumptions that are difficult to validate' in
any modelling.
The modelling actually done by Econtech (using the Murphy Model)
for the Ralph Report showed that the gains in certain industries
are approximately offset by losses in others. Overall there is a
net gain of 0.06 per cent in total output.(31) However the text
warns against using these particular modelling results in the
context of overall economic effects. The text warns that the
results 'do not include the general increase in production from the
growth dividend expected to flow from the Review's
recommendations.' In particular, there was no attempt to measure
'any growth dividend from direct tax reform that may arise from
treating entities, industries and assets more evenly for taxation
purposes.'(32) This is surprising as normally the Murphy Model
would be used to show macroeconomic effects of this type of reform.
However, even if Ralph had managed to do that, Stage 1, which is
under consideration at the present, does not include the new
approach to determining taxable income. This is the fundamental
structural change that is central to the philosophy of the Ralph
Report.
Elsewhere Econtech has presented its modelling results in more
detail.(33) This shows the effect of the Ralph Report's
recommendations on the costs in various industries. These are
produced in Table 2. Note that Table 2 relates only to Ralph, not
Ralph plus ANTS II, which is examined elsewhere in this
publication. In assessing the present package, any effects of ANTS
II have to be treated as already given.
Table 2: Ralph Report Recommendations: Changes in
Industry Costs $million
Industry
|
$M
|
Agriculture, forestry and fishing
|
28
|
Mining
|
226
|
Manufacturing
|
178
|
Electricity, gas and water
|
172
|
Construction
|
22
|
Wholesale trade
|
-97
|
Retail trade
|
37
|
Accommodation, cafes and restaurants
|
56
|
Transport and storage
|
207
|
Communication services
|
6
|
Finance and insurance
|
-934
|
Property and business services
|
-78
|
Government admin and defence
|
-1
|
Education
|
-2
|
Health and community services
|
-15
|
Cultural and recreational services
|
-7
|
Personal and other services
|
3
|
|
|
Total
|
-199
|
Total excluding Finance and insurance
|
735
|
Source: Econtech, 'The long-term effects of tax reform on
Australian industries, Report prepared for The Australian Bankers'
Association,' 24 August 1999.
The changes in industry costs in the Murphy model will determine
whether that industry expands or not. Clearly the increase in
industry costs will cause a significant contraction in mining,
manufacturing, utilities, as well as transport and storage with a
significant expansion in finance and insurance and property and
business services. The effects in other industries are too small to
worry about. Overall there is a reduction in costs, which could be
taken to indicate an increase in economic activity. However, if we
exclude finance and insurance there is a large increase in business
costs. Hence any stimulus to the economy must come from cost
savings in the finance and insurance sector. Of course, it is
unlikely that finance and insurance activity would increase
markedly in the absence of concurrent increases elsewhere in the
economy as the market demand for the services of this sector is
primarily a 'derived demand'.
For the above reasons the growth dividend must be regarded as
problematic. What is more, to include revenue from a growth
dividend in this sort of documentation would appear to violate the
Finance Memorandum 1999/06 mentioned earlier. In particular the
memorandum requires that 'offsets ... are genuine.' Moreover, the
memorandum specifies 'general revenue increases' as being among the
'specific types of reductions [that] are not genuine in
terms of this criteria'(34) For all these reasons it is difficult
to accept the growth dividend as a genuine offset to the budgetary
cost of reducing the company tax rate.
Fiscal Impact of the Abolition of
Accelerated Depreciation
The abolition of accelerated depreciation has the effect of
bringing forward tax collections without increasing the overall
revenue proceeds over the life of the particular asset subject to
depreciation. Hence the revenue gain from the abolition of
accelerated depreciation will gradually fall to zero. In 20 years
time there will be no increased revenue. This is because the
maximum assumed life of an asset for depreciation purposes is 40
years in the case of rental and office buildings. Hence these would
be still getting the last benefits of accelerated depreciation in
20 years time in the absence of the planned measure.
The Ralph Report concedes that the value of the abolition of
accelerated depreciation would eventually disappear. However, Ralph
qualifies this by saying:
In the absence of growth in the investment base,
removing accelerated depreciation would yield only a temporary gain
to revenue, though the peak in revenue would be around five years
from the time of implementation of the effective life regime and
the subsequent decline in revenue only gradual. In contrast,
underlying growth in the nominal value of investment in plant and
equipment averaging around six per cent per year is sufficient to
prevent the revenue profile from declining significantly over the
medium to long term.(35)
On our own modelling, as an example, with six per cent growth in
nominal investment and assuming plant lasts 10 years then
accelerated depreciation means 14 per cent more is claimed against
income than under effective life depreciation. This difference
grows with longer lived assets and shrinks with shorter lived
assets. Likewise a higher assumed growth in investment would reduce
the amount claimed under accelerated depreciation compared with
effective life depreciation. However, the 6 per cent growth in
nominal investment is perhaps difficult to justify for the time
being. For 1999-00 the Budget Papers include forecasts for growth
in business investment of zero for the year average and minus one
for the four quarters to June 2000. For that reason it is difficult
to allow for growth in investment to justify treating the savings
to revenue as virtually permanent. At the very least in the light
of Budget forecasts we should want some solid evidence that
estimates should be based on optimistic future growth rates. In the
absence of that evidence it is difficult to accept the view that
the long run estimates are unchanged.
The fact that the value of accelerated depreciation falls to
zero in the long run could be used as a justification for ignoring
accelerated depreciation entirely. However, the bunching up of
revenue in earlier years is worth something to the budget sector
and is a genuine penalty for companies with depreciating assets.
The bunching up of revenue means that government debt can be repaid
and forever after interest outlays are lower than what they
otherwise would have been. What we can do is attempt to estimate
the consequent permanent improvement in the budget balance
as a result of the interest outlays saved as a result of this
exercise. Our methodology is to take all the identified revenue
over the years 2000-01 to 2004-05, and add five times the estimate
for 2004-05(36) as the total value of this measure going
indefinitely into the future. That gives a figure of $23 580
million which can be assumed to come off the outstanding debt in 15
years time. Using the long bond rate of 6.49 per cent (Monday 11
October 1999) we find that this measure is consistent with a
permanent improvement in the budget balance of $1530 million per
annum. This will be the value we give to the abolition of
accelerated depreciation, although it has to be acknowledged that
it is a bit bold to add the full year effect from year one when the
measure would have to last 15 years to produce the permanent change
factored in for year one.
Adjusted Assessment of Overall Revenue
Impacts
Table 3: Alternative estimates of the revenue effects of
the Government's response to the Ralph Report
$ million
|
2000-01
|
2001-02
|
2002-03
|
2003-04
|
2004-05
|
|
|
|
|
|
|
Treasurer's claimed overall impact of announced and deferred
measures
|
540
|
-710
|
270
|
420
|
-20
|
Deduct impact of deferred measures
|
470
|
820
|
950
|
940
|
1040
|
Deduct CGT receipts due to behavioural changes
|
610
|
580
|
540
|
520
|
430
|
Deduct accelerated depreciation
|
1150
|
2220
|
2300
|
2610
|
2550
|
Add back permanent improvement in budget due to abolition of
accelerated depreciation
|
1530
|
1530
|
1530
|
1530
|
1530
|
Deduct growth dividend (as explained in the text)
|
30
|
50
|
100
|
150
|
250
|
Add successor to accelerated depreciation
|
?
|
?
|
?
|
?
|
?
|
Revenue impact of package
|
-190
|
-2850
|
-2090
|
-2270
|
-2760
|
Source: Estimates prepared by Information and Research Services,
Department of the Parliamentary Library. Note that the figure for
accelerated depreciation is not exactly comparable with Table 1.
The figure there includes accelerated depreciation but deducts the
cost of small business initiatives.
Table 3 presents the Government's estimates of the revenue
effects, as well as our adjustments. Overall, after examining the
above issues we admit some reservations about the Government's
estimates of approximate revenue neutrality in costing its
responses to the Ralph Report (i e. its Stage 1 response and its
yet to be announced Stage 2 response). Instead the analysis here
suggests there is a revenue loss of $10.16 billion in the years
2000-01 to 2004-05. A substantial part of that is the $4.22 billion
the Treasurer says will result from the impact of deferred (Stage
2) measures. While those deferred measures have not yet been
articulated it is difficult to credit the overall package with hard
figures at the moment. That $4.22 billion might be regarded as a
target for future measures but, as mentioned earlier, it seems
inconsistent to both defer consideration of the measure yet claim
the revenue. The rest of the difference reflects behavioural and
other assumptions that seem difficult to accept or which are not
adequately supported in the analysis so far released by the
Government or provided in the Ralph Report. Moreover, some of those
assumptions would not be allowed in ordinary budgetary
documentation if conventional Department of Finance and
Administration budgetary statement guidelines were applicable. In
addition the accelerated depreciation changes raise a question of
whether short run revenue implications might also reflect long run
implications.
All in all, for the years 2000-01 to 2004-05, it can be argued
that the Government's claimed effect on the budget has been
overestimated by around $10.66 billion. As suggested earlier, this
will have some bearing on the distribution of the taxation burden
between the business and household sectors. This shortfall would
have to be addressed in future budgets. However, the deferred
measures, if they were introduced would reduce the shortfall by
$4.22 billion. Perhaps this also means that the Parliament would be
justified in seeking to examine the details of Stage 2-the deferred
measures-before accepting Stage 1. Some of the measures treated as
business issues, such as the proposed capital gains tax
arrangements, impact directly on the personal distribution of the
tax burden. The benefit of lower capital gains tax rates will
affect the distribution of the tax burdens assumed under ANTS
II.
Changes in business income taxes paid by
industries in 2004-05
The Report of the Review states that in May 1999, the Department
of Industry, Science and Resources (ISR) commissioned Econotech to
model the long-term effects of business tax reform on Australian
industries. The changes modelled were the indirect tax measures
announced in ANTS, the reduction in company tax rates proposed by
the Review, and the Review's other recommended reforms.
The model produced estimates of the tax burden on various
industries as set out in table 4. All estimates refer to the year
2004-05.
Table 4: Changes in business income taxes paid by
industries in 2004-05
Industry
|
Revenue from A New Tax System
measures
at 36%
$m
|
Revenue from A New Tax System
measures
at 30%
$m
|
30% Tax Rate - Existing Base
$m
|
Remove Accelerated Depreciation
$m
|
Other Reforms
$m
|
Total
$m
|
Agriculture, forestry & fishing
|
33
|
22
|
-39
|
84
|
-52
|
16
|
Mining
|
-8
|
-4
|
-316
|
385
|
121
|
186
|
Manufacturing
|
32
|
26
|
-554
|
662
|
100
|
234
|
Electricity, gas & water
|
3
|
2
|
-9
|
167
|
19
|
179
|
Construction
|
-2
|
-2
|
-83
|
86
|
9
|
10
|
Wholesale trade
|
18
|
11
|
-251
|
131
|
57
|
-51
|
Retail trade
|
25
|
16
|
-133
|
173
|
65
|
121
|
Accomm, cafes & restaurants
|
1
|
1
|
-29
|
77
|
-8
|
40
|
Transport
|
13
|
9
|
-87
|
285
|
-45
|
192
|
Communication services
|
-76
|
-53
|
-175
|
133
|
-34
|
-129
|
Finance & insurance
|
948
|
628
|
-940
|
67
|
17
|
-228
|
Property & business services
|
105
|
69
|
-303
|
210
|
42
|
19
|
Government admin & defence
|
..
|
..
|
-2
|
..
|
12
|
10
|
Education
|
3
|
2
|
-3
|
2
|
12
|
13
|
Health & community services
|
22
|
14
|
-25
|
21
|
12
|
23
|
Cultural & recreational services
|
6
|
3
|
-57
|
48
|
-2
|
-7
|
Personal & other services
|
9
|
6
|
-23
|
17
|
3
|
3
|
Total
|
1130
|
750
|
-3030
|
2550
|
360
|
630
|
Note: Totals may not sum due to rounding.
Source: Review of Business Taxation, A Tax System
Redesigned, p. 744.
It will be seen from Table 4 that the reduction in the company
tax rate from 36 per cent to 30 per cent of $3.030 billion is
largely paid for by the abolition of accelerated depreciation of
$2.550 billion.
Industries with a high proportion of taxpayers (such as sole
proprietors and partnerships that are not taxed as companies, in
agriculture, forestry and fishing) would not benefit to the same
extent as other industries which predominantly use companies, from
a reduction in the company tax rate.
Who are the
beneficiaries of the trade off of accelerated depreciation for the
reduced company tax?
General comments on accelerated
depreciation
The term 'accelerated depreciation' refers to the situation
where the cost of an asset is deducted over a shorter period than
its effective life. Accelerated depreciation is the allowance of
deductions for declines in the value of an asset at higher rates
than are expected to occur in practice. Accelerated depreciation is
allowed for plant and equipment. Buildings do not generally qualify
for accelerated depreciation to the same extent as plant and
equipment. Accelerated depreciation does not increase the nominal
entitlement to taxation depreciation over the life of an asset.
Rather it brings forward deductions. This results in tax being
deferred during the early years of an asset's useful life and
increases tax in the later years.
The benefit to the taxpayer of accelerated depreciation is
confined to tax deferral. In after-tax terms, accelerated
depreciation increases the net present value of an investment, or
its rate of return above what it would be in the absence of
accelerated depreciation.
Taxpayers value accelerated depreciation because it provides
important cash flow benefits. Where a taxpayer has made a
substantial up-front capital expenditure early positive cash flows
are important in determining the overall rate of return on the
project.
Spread of
Accelerated Depreciation over Industries
The Discussion Paper titled A Strong Foundation -
Establishing objectives, principles and processes issued by
the Review in November 1998 notes that the existing legislation
contains detailed sets of provisions to deal with the treatment of
over 37 types of capital expenditure. These are illustrated in
Figure 1 below.

Source: Review of Business Taxation, A Strong
Foundation, p. 32.
It will be seen that capital intensive industries such as mining
and manufacturing derive the most benefits from accelerated
depreciation. Service industries such as finance, tourism or
retailing will derive relatively little benefit from accelerated
depreciation as the investment on plant and equipment relative to
income can be expected to be significantly less than that expected
of the mining and manufacturing industries.
Further, different capital assets are eligible for varying
levels of accelerated depreciation and different depreciation
regimes exists for different asset classes.
Long-Term
Effects of Tax Reform on Australian Industries
As mentioned earlier the Treasurer in releasing the proposals
for The New Business Tax System (NBTS) claimed that it will provide
Australia with internationally competitive business tax
arrangements and create the environment for achieving higher
economic growth.
A key indicator of the potential for higher economic growth and
international competitiveness is the impact of the proposals on
industry costs. The Treasurer did not release any information on
the impact of the measures in the NBTS on industry costs. Nor did
the Treasurer release any information on the combined impact of the
revised ANTS package now being implemented and the modified Review
proposals in the NBTS on industry costs.
A report prepared by Econtech for the Australian Bankers'
Association and released on 24 August 1999 examines the
effects of indirect tax reform and the business tax measures
recommendations of the Review on Australian industries. The object
of this report was to ensure that the public debate about the
merits of tax reform is supported by analysis of the effects of tax
reform. The Econtech report analyses the effects of tax reform as
an integrated package. It takes into account the final version of
indirect reform which was amended in June 1999 (ANTS II) before
being passed by the Senate. The report also takes into account
business tax reform measures from the option suggested by the
Review in their discussion paper A Platform for
Consultation. The most important of the Review measures is to
abolish accelerated depreciation tax concessions to pay for a
reduction in the company tax rate from 36 per cent to 30 per
cent.
A copy of the Executive Summary of this report is included in
Current Comment No.1 1999-2000.
Table 5, reproduced from the Executive Summary, shows the
changes in industry costs from the combined business tax reform
measures.
Table 5: Changes in Industry Costs from the Combined
Business Tax Reform Measures
|
ANTS II
|
Ralph
|
Total
|
Agriculture, forestry, and fishing
Mining
Manufacturing
Electricity
Construction
Wholesale trade
Retail trade
Accommodation, cafes and restaurants
Transport and storage
Communication services
Finance and insurance
Property and business services
Government admin and defence
Education
Health and community services
Cultural and recreational services
Personal and other services
Dwellings
|
-1300
-2000
-8400
-1000
-2100
-2300
-2300
-700
-2600
-1000
-800
430
-2600
-1200
-200
-900
-700
-400
2900
|
28
226
178
172
22
-97
37
56
207
6
-934
-230/-120
-78
-1
-2
-15
-7
3
0
|
-1272
-1774
-8222
-828
-2078
-2397
-2263
-644
-2393
-994
-1734
200/310
-2678
-1201
-202
-915
-707
-397
2900
|
Source: Econtech, The Long Term Effects of Tax Reform on
Australian Industries, A report prepared by Econtech for the
Australian Bankers' Association on 24 August 1999, Executive
Summary, p. iii.
(a) The Ralph estimates are a range to reflect uncertainties
arising from the limited public information available.
The general conclusion that may be drawn is that ANTS II has
delivered to industry the major benefits of cost reductions which
would give rise to economic growth. The major beneficiaries of the
New Business Tax System based on the Ralph Review have been the
Finance and Insurance sectors.
Impacts
on selected sectors
This paper also discusses the impact of the New Business Tax
System on a number of industry sectors, namely, primary producers,
the manufacturing sector, the mining sector, the financial services
sector, the small business sector, research and development and the
community services sector. The reader is referred to Appendixes 3
to 11 of this paper for analyses of the proposed reforms of various
sectors.
Conclusion
The Government's proposed reforms to business taxation are major
reforms that will have fiscal and structural implications for
Australian businesses. The legislation that would implement the
proposed reforms would be extensive and complicated, but according
to the Government would be beneficial to the nation. The
Government's view of the proposed reforms is quite clear:
The tax reforms now being implemented will take
Australia into the next century with a modern, competitive and fair
taxation system.
The New Business Tax System will provide
Australia with internationally competitive business tax
arrangements, which will create the environment for achieving
higher economic growth, more jobs, and improved savings as well as
providing a sustainable revenue base so that the Government can
continue to deliver services for the community.(37)
The companion to this publication, 'Ralph Review of Business
Taxation' Current Comment No 1 1999-2000, also prepared by
Information and Research Service contains a useful selection of
articles and commentary on the proposed taxation reforms. These
articles, some of which are referred to in this publication,
question the revenue neutrality of the proposed measures, as well
as the merit of some of the reforms. Other analysis has fully
supported the proposed reforms and the purpose and objectives
behind the Government's tax reform agenda. As is often the case
with economic reforms, opinions differ on the merit of the
proposals. Nonetheless, despite these differences of opinion, it is
arguable that some of the analysis or assumptions used in the
Review of Business Taxation may be over-optimistic in its
assessment of the fiscal impact of the proposals, for example, the
reliance on revenue dependent on decisions that are yet to be made
and the estimated increases in capital gains tax revenue. In light
of these and other uncertainties, it appears questionable whether
the aim of revenue neutrality can be met. Only time will tell
whether the reforms will benefit the nation in the manner that the
Government outlined.
Appendix 1: Terms of
Reference(38)
Business Income Tax Review
Business taxation is concerned with taxing investments in
physical and financial assets (and their financing) and the
collective vehicles or 'entities' through which these investments
can be made.
Objectives
The Review will pursue the strategy specified in A New Tax
System of consultation on the framework of reform of
business entities and on the extent of reform of
business investments recognising the current
problems and objectives for business tax reform identified in A
New Tax System. The process of consultation will include an
assessment of the design and the administration of the tax regimes
affecting business to identify their main shortcomings and their
impediments to productive activity and innovation.
The Review will make recommendations on the fundamental design
of the business tax system, the processes of ongoing policy making,
drafting of legislation and the administration of business
taxation.
The recommendations will be consistent with the aims of
improving the competitiveness and efficiency of Australian
business, providing a secure source of revenue, enhancing the
stability of taxation arrangements, improving simplicity and
transparency and reducing the costs of compliance. The Review will
adopt a comprehensive approach to reform driven by clear, sound
principles involving a move towards greater commercial reality.
Methods
The Review of business taxation arrangements will be open and
transparent.
-
- Mr John Ralph, AO, will chair the Review.
-
- The Review will be able to call on the expertise of both the
public and private sectors and academic tax experts.
-
- The Review is to report by 31 March 1999 to allow a reasonable
time period for consultation with the business community, to allow
draft legislation to be subject to consultative input from business
and for the legislation to have effect from 1 July 2000.
Outcomes
- The Review will report on the state of the current arrangements
relating to business taxation.
This will involve reporting on:
(a) The Australian business taxation system as a whole compared
with international experience;
(b) The structural flaws in the broad design of business tax
arrangements and the degree to which existing business tax systems
bias and impede business decisions;
(c) The degree to which the current business tax arrangements
meet the aims of certainty of taxation treatment, clarity of law,
ease of administration and low compliance costs; and
(d) The administration of taxation, including the drafting of
legislation and technical corrections to legislation and the
adequacy of existing procedures for consultation between the
taxation authorities and the business community.
- The Review will make recommendations about the fundamental
re-design of business tax arrangements. While no aspect of the
taxation of business entities and investments should be precluded
from the scope of the review, consultations by the Review and
associated recommendations will be directed to the strategy for
reform spelt out in A New Tax System.
- The Review will:
(a) examine in relation to business entities, the re-designed
company tax arrangements proposed to apply to companies, trusts,
cooperatives, limited partnerships and life insurers 3/4
including a move towards consolidated group taxation and the
achievement of a consistent treatment of distributions of profit
and contributed capital;
(b) examine in relation to business
investments, the extent of reform in the areas of physical
assets, financial assets/liabilities and intangibles and the
potential use of accounting principles, taking into account the
following considerations
(i) the need to encourage business
development with an internationally competitive tax treatment of
business investments;
(ii) the potential benefits of bringing tax value and commercial
value closer together;
(iii) the goal of moving towards a 30 per cent company
tax rate;
(c) examine in relation to capital gains tax (CGT), the scope
for:
(i) capping the rate of tax applying
to capital gains for individuals at 30 per cent;
(ii) extending the CGT rollover provisions to scrip-for-scrip
transactions; and
(d) need to achieve overall revenue neutrality in respect of (b)
and (c) with these changes.
- The Review will make recommendations concerning the question of
consultative input from the business community into the ongoing
processes of policy design, drafting of legislation and the
administration of taxation.
- The Review will make recommendations concerning possible
improvements in the administration and the accountability of the
taxation authorities in relation to business taxation.
Appendix 2: Matters ruled out by
the Review and the Government
Alternative
Company Minimum Tax (ACMT)
The review did not recommend the adoption of the
ACMT as applies in the US, Canada, India, Pakistan, Venezuela and
Columbia arguing that the following proposed measures, taken
together, will reduce substantially the capacity for companies to
reduce their nominal tax liabilities, and therefore their effective
rate, by taking advantage of tax preferences.
-
- The taxation of wasting assets (particularly the abolition of
accelerated depreciation for all but small businesses).
-
- The 'freezing' of indexation of capital gains.
-
- The accrual of payments associated with the taxation of leases
and rights.
-
- The tax consolidation of corporate groups.
-
- Taxing inter-entity distributions.
-
- Value shifting and loss duplication measures outside
consolidated groups.
The Report of the Review did however note the
likely impact of an ACMT on tax avoidance by companies
Companies that would be required to pay at least
a minimum company tax would have no incentive to engage in
avoidance practices that would take their tax liability below the
minimum company tax. A minimum company tax could therefore have an
incidental effect of reducing the incentive for companies to engage
in tax avoidance practices, and therefore to devote fewer resources
to these activities. One response to this argument is that a
minimum company tax would merely change the avoidance focus from
the ordinary tax base to the minimum company tax base.(39)
It is therefore relevant to take stock of the avoidance aspects
which the Report has indicated requires further review, before
concluding that the introduction of the ACMT would not add to the
perception of equity in the tax system as a whole.
Appendix 3: Impact on the
Community Services Sector
Commentary by Ms Jacqueline Ohlin,
Research Specialist, Social Policy Group
While there has been substantial interest and analysis on the
effect of the Ralph Report on both large and small business, there
is still very little comment about the effects on the community
services sector.
The sector itself has, so far, only commented on the effect of
the Ralph Report proposals on the community in general. The
Australian Council of Social Service, the Council on the Ageing,
the Carers' Association, the Australian Pensioners' and
Superannuants' Federation and the Sole Parents' Union issued a
joint News Release on 20 September 1999. They criticised the
Government for failing to take the opportunity to close tax
avoidance loopholes for company cars, shelters for personal income
tax and the use of business entities such as trusts and private
companies to avoid tax. They pointed out that 'these loopholes mean
ordinary Australians have to pay more tax than they otherwise
would, or suffer cuts to pensions, benefits and public services
through lack of revenue,' and warn against further cuts to social
services to help pay for promised tax cuts.
In another Media Release on 21 July 1999, ACOSS President,
Michael Raper, argued that a lower capital gains tax (as proposed
by the Ralph Report) would unfairly advantage wealthy taxpayers,
who could afford to invest in assets such as real estate and shares
rather than directly in active businesses that obtain their profits
from selling goods and services. Mr Raper noted:
'There is no sound economic reason to favour
property and shares over other investments' and further 'Cutting
capital gains tax is not going to increase revenue ... someone
has to pay for capital gains tax cuts and it is likely to be low
income investors, ordinary businesses, or consumers of health,
education and welfare services'.
Whether the 'business arms' of community service agencies can
benefit from the Ralph Report proposals remains to be seen. ACOSS
is currently undertaking analysis into the effects of the proposals
on community services. However, a couple of points are worth
noting:
-
- For some time now, the community services sector has maintained
the view that, in its service dealings with the least advantaged in
society, it should be regarded as fundamentally different from
commercial operations-essentially, that it is a nonsense to
consider human service provision as a tradeable commodity. In the
discussion surrounding the Goods and Services Tax, for example,
community sector agencies raised concern about the introduction of
a GST on the 'commercial' activities of organisations, and changes
to the Fringe Benefits Tax which, they argued, will 'reduce the
sector's capacity to provide services to people in need'.(40)
Agencies suggest firstly, that as non-profit agencies they are not
operating on a so-called 'level playing field' with commercial
service providers, and secondly, in ploughing their profits back
into service provision in one form or another, they are actually
effecting a community saving through current
operations
-
- Very few community sector agencies are actually likely to
directly benefit from changes to input taxes within the Business
Tax System, simply because of their size and the nature of their
operations. In the Industry Commission, Report Charitable
Organisations in Australia, it was noted that the largest 50
organisations account for only a small proportion (0.05per cent) of
all the organisations in the sector (and for a third of the total
income of the sector). The remaining organisations tend to be quite
small and dependant upon Government revenue for 45 per cent of
their operations(41)
The other area in which community service agencies might
indirectly benefit from Business Tax changes is through receipt of
corporate donations, however at this stage any projected changes
would be speculative. David Gonski, adviser to the Prime Minister
on the drafting of tax incentives for gifts to charities, has
spoken positively about the potential for people to 'give something
back to Australia(42) including 'in-kind.' Nevertheless,
Australia's record of corporate giving stands at about one-sixth
the rate in the United States. We are not overly-generous when it
comes to charitable donations, except, it would seem, among lower
income households, where in the order of 75 per cent give to
charities.
Appendix 4: Impact on Primary
Producers
Commentary by Mr Peter Hicks, Research
Specialist, Economics, Commerce and Industrial Relations
Group
The farm sector has emerged from the business taxation changes
relatively unscathed in terms of retention of existing tax
concessions. This has been applauded by farmer organisations with,
for example, the President of the National Farmers Federation (NFF)
saying:
We welcome specific initiatives including the
promised retention of existing tax provisions for primary
producers, including expenditure on Landcare and conserving and
conveying water, extension of telephone and electricity lines, and
the treatment of standing crops and livestock valuation.(43)
In their initial responses to the Government's announcement
farmer organisations expressed relief that the Government had not
implemented many of the original proposals by the Ralph Committee
with regard to the rural sector but had 'recognised the
peculiarities of the primary sector'.(44) They also responded
particularly favourably to measures including the Simplified Tax
System (STS) for small business, removal of CGT on assets held for
more than fifteen years by retiring farmers, the 50 per cent CGT
exemption and related provisions.
A major area of concern to farmers arising from the announcement
is the proposal to tax trusts and limited partnerships like
companies. While about 1 per cent of farms are operated by trusts
it is estimated that around 20 per cent are owned by trusts.
Although changes to the taxation of entities has been deferred
until 1 July 2001:
-
- The NSW Farmers' Association is disappointed that this concept
has not been thrown out completely and has stated that:
Taxing trusts in the same way as companies would
be totally unacceptable to farmers. Farmers use trusts for many
valid business reasons that have nothing to do with tax avoidance.
Potential changes to entities taxation could have far reaching
effects on agriculture over generations and carry the potential to
inhibit timely intergenerational transfer of assets.(45)
-
- The NFF has welcomed the deferral saying it will allow time for
further consultation on the issue with the Government. They are
confident this will 'ensure a clearer understanding of the
importance of trusts and the necessity for flexibility in
partnership re-organisation in assuring the intergenerational
transfer of farm businesses'.(46)
Another major area of concern to farmers is the substantial
reduction in depreciation allowances for farmers with turnover of
more than $1 million.
-
- Farmer organisations have cited Australian Bureau of
Agricultural and Resource Economics statistics that the 2.4 per
cent of broadacre farmers with turnover in excess of $1 million
account for over 17 per cent of broadacre farm production.
-
- The substance of the argument here is one of incidence in that
the small number of (large) farmers who are responsible for a
disproportionately large share of rural production will be
disadvantaged through lower depreciation allowances. Further,
larger farms tend to achieve better financial performance (profits
and rates of return) than smaller farms. Thus the application of
the threshold can be seen as penalising a more financially viable
group of producers.
-
- The particular agricultural industry most likely to be affected
is cotton which is highly capital intensive. According to the
Australian Bureau of Statistics(47) the average turnover for cotton
enterprises is $1.8 million and it is the only sector with an
average farm business turnover in excess of $1 million. The
industry with the next largest average turnover is the pig industry
at $714,000 followed by the grain industry at $413,600.
-
- Average farm business turnover $255,500 and
78.5 per cent of farm businesses have turnover of less
than $300,000. However these only account for
37.1 per cent of the total turnover of agricultural
industries.
A third area of concern to farmers arising from the announcement
is the proposal to restrict access to the STS for farms with
turnover exceeding $1 million.
-
- The WA Farmers Federation says that such farmers "will not be
afforded the luxury of a 'simplified tax system' and will be
significantly affected."
-
- The issue here is also incidence, similar to that for
depreciation allowances discussed earlier.
-
- With the Treasurer indicating that the Government is
considering applying the STS generally to business, there is some
chance that this concern will be addressed before the STS becomes
operative.
The proposed changes will have a major impact on the agriculture
sector. An analysis of the long-term effects of both the recent
changes to the indirect taxation arrangements (ANTS II) and the
measures outlined in the Ralph Report was prepared using the Murphy
Model of the Australian economy.(48) Although this report was
released prior to the Government's announcement of its proposed
changes to business taxation arrangements, and the measures
announced do not fully mirror the recommendations modelled in the
report, they are sufficiently close to allow meaningful comment to
be made.
According to the Murphy Model the Ralph recommendations would
result in:
-
- Only a very small increase in agricultural production on top of
that generated by ANTS II.
-
- An insignificant increase in industry costs with these being
easily offset by the significant reduction in costs from ANTS
II.
However, with the Government proposing to retain accelerated
depreciation for most farmers, and hence the bulk of agricultural
output, it is likely that there will be now be a very small fall in
industry costs for the agriculture sector from the business
taxation measures.
Appendix 5: Impact on the Manufacturing
Sector
Commentary by Mr Michael Emmery,
Research Specialist, Economics, Commerce and Industrial
Relations Group
The initial press response to the release of Review of Business
Taxation (RBT) has included frequent references to non-neutral
treatment of different sectors of the economy and generally
concluded that manufacturing will be a loser.
The Sydney Morning Herald editorial (22 September 1999)
notes:
The reduction in the company tax rate will be a
fillip to the services sector. The manufacturing and mining
sectors, on the other hand, will complain that paying for the
reduced rate by eradicating accelerated depreciation on plant and
equipment will hit them unfairly.
The Age editorial (22 September 1999) ran a similar line:
If the tax changes represent a significant
disadvantage to any sector of Australian business, it is most
likely to be in manufacturing, with consequent dangers for
employment levels and the trade deficit.
Professor Warren at the Australian Taxation Studies Program in
the University of New South Wales makes two points about the impact
of the proposed tax reforms on large businesses. First he argues
that the benefit from a lower company tax rate may be more apparent
than real because of the loss of accelerated depreciation and also
because the benefits to resident shareholders will be reduced by
the loss of franking credits under imputation. Secondly he argues
that there will be winners and losers among large businesses. The
losers will be in manufacturing and mining and the winners in the
financial sector, but not life insurance companies.
While there is some substance in the above argument that
manufacturing, and perhaps mining, may bear a greater burden of the
proposed tax changes than the services sector, it does appear that
the significance of this distortion, if any, may be exaggerated.
The modelling of the impact on different sectors done for the
Review of Business Taxation indicates that non-neutral impacts are
of a relatively minor nature. Also there have been no cries of
'unfair treatment' from the usually vocal manufacturing lobby
groups which would appear to indicate that they do not see this as
a significant issue arising from the Government's response to the
Review.
The modelling of the sector impacts of the RBTs recommended
business tax changes was undertaken using the Murphy Model (MM303).
It estimates the medium-term (taken to be 2004-05) change in taxes
paid by different industries from both the measures proposed in a
New Tax System (ANTS) and the RBT recommendations.
The modelling shows that business income taxes paid by all
industries would rise by $630 million, with the major contributors
to this rise being manufacturing ($234 million), mining ($186
million), transport ($192 million) and electricity, gas and water
($179 million). The main beneficiaries from the tax changes are
finance and insurance with a reduction in their business tax of
$228 million, and communications with reduced taxes of $129
million.
The next step in the modelling exercise was to estimate the
direct and indirect effects of the business tax changes on
production in each sector. The results show moderate tax induced
increases in production in communication services and finance and
insurance and also a small increase in production in manufacturing.
The main industries to experience a negative impact on production
are mining, electricity, gas and water and transport.
This section of the RBT report concludes:
Given the degree of uncertainty that must be
attached to estimated effects on individual industries, the major
conclusion that can be drawn from the model results is that the
business tax reform measures will neither advantage or
disadvantage, in relative terms, any industry sector to a
significant degree.(49)
The national industry associations have given a cautious, but
overall favourable, response to the Treasurer's statement on the
Ralph Review of Business Taxation. The Australian Chamber of
Commerce and Industry chief executive Mark Patterson said the
Government's package stacked up very well against the benchmarks
set by industry(50). The Managing Director of Australian Business,
Philip Holt, said the business tax reform package had many positive
features, notably the lower rate of company tax, the new
depreciation arrangements for small business and the lower capital
gains tax rates for active businesses.(51)
Spokesperson for the Australian Industry Group, Heather Ridout,
also welcomed the Government's response, noting that while industry
needs to examine the report in detail, an early examination
indicates a generally positive and balanced approach to business
tax reform. The Australian Industry Group welcomes in particular
the reduction in the corporate tax rate, simplified arrangements
for small business which should substantially reduce compliance
costs, the comprehensive reforms to capital gains tax and the
establishment of an ongoing advisory board.(52)
The industry bodies indicated that they would have liked to see
further reform in a number of areas-changes to the complex fringe
benefits regime, action to avoid the dilution of the value of the
R&D tax concession, the extension of the new depreciation
allowances to medium sized and bigger businesses and a restriction
on the lower capital gains tax to active businesses to avoid the
incentive to speculative purchasing of assets.
To date there has been very little response from major
companies, or interest groups, as to the impact of the tax reform
package on individual industries within the manufacturing sector.
However these groups made submissions to the Ralph Inquiry and it
is possible to make broad comparisons between what they expected
from the business tax review and the outcome.
A critical area of manufacturing that will be affected is the
capital-intensive industries. The industries in this group, in
particular, the manufacturers of motor vehicles and parts,
chemicals and plastics and pulp and paper, generally expressed
similar points of view in their submissions to the Review of
Business Taxation. They supported the reduction in the corporate
rate of taxation to 30 per cent but expressed concern about the
impact of the withdrawal of accelerated depreciation on their
ability to attract international capital, to replace obsolete
plants and to make further investment in world scale plants. The
Plastics and Chemicals Industries Association, for example,
noted:
If accelerated depreciated provisions are withdrawn to allow for
a lower corporate tax rate, the challenge to government seems to be
to develop alternative measures that attract investment while
meeting the Government's revenue needs.(53)
The Government has stated that with respect to large capital
intensive projects with long lives, it will 'be prepared to
consider such projects in the context of an expanded strategic
investment coordination process, including consideration of the
option of targeted investment allowances'.(54) The capital
intensive industries have expressed a strong interest in learning
more about the nature of this proposed assistance measure but it
must be expected that there will be business concern about the
uncertainty and 'picking winners' nature of this type of
assistance.
Appendix 6: Impact on the Mining
Sector
Commentary by Mr Michael Roarty,
Research Specialist, Science, Technology, Environment and Resources
Group
There have been significant taxation changes to Australia's
mining industry resulting from the reforms of the indirect tax
system and the business taxation changes resulting from the Ralph
Review.
Probably (as a result of the Ralph Review) of most significance
has been the removal of the accelerated depreciation schedule-the
charging of the bulk of depreciation deductions in the early year's
of a project life, in favour of a system where depreciation is
charged over a projects 'effective lifetime'. However, any project
underway before 22 September 1999-the effective date of the new
depreciation regime-continues to enjoy the benefits of the
accelerated depreciation schedule (grandfathering).
In general terms, the mining industry lobbied against such a
move, although after consideration, the Ralph Review opted to push
for the removal of accelerated depreciation. This option was
adopted rather than adjust the proposed business taxation scales
which involves the reduction of company taxation from the current
36 per cent to 34 per cent in 2000 and to 30 per cent in 2001. The
Government also argued that as a result of reforms to the indirect
tax system, the mining industry will benefit from the removal of
hidden input taxes and will also benefit from lower transport costs
flowing from the reduction in diesel costs. The Government however
acknowledged the importance of major capital investment and stated
that it may provide assistance to major projects in the form of
one-off investment allowances rather than budget outlay items.
A particular positive outcome for the mining industry was the
Government's rejection of the removal of the ability of mining
companies to claim an immediate tax deduction for stripping or
overburden removal costs. These cost are important elements of
bringing any open cut operation into being, particularly applicable
to coal and gold open pit operations. Other deductions for
expenditure in prospecting and exploration and the research and
development tax concessions have been retained. Further, from 1
July 2001, expenditures incurred by the mining sector, such as
those for export market development, defending native title claims
and mine closures, will be immediately deductible, provided that
such costs do not create or improve an asset. Such costs, which are
termed 'blackhole expenditures' are not currently deductible.
Appendix 7: Impact on the
Financial Services Sector
Commentary by Mr David Kehl, Research
Specialist, Economics, Commerce and Industrial Relations
Group
The
Government's response to the recommendations of the Review of
Business Taxation will bring great benefits to the financial
services sector. The measures announced in A New Tax
System (personal tax cuts, replacing wholesale sales tax with
a GST, reductions in fuel excises and the abolition of financial
institutions duty, taxing trusts as companies, deferred company
tax, increased tax on life insurance companies) combined with the
measures outlined in the Review of Business Taxation (cuts in
company tax rates and abolition of accelerated depreciation) make
the financial services sector the second biggest beneficiary of tax
reform.
Understandably, the boost to the financial services sector has
brought favourable comments from financial service organisations.
For example, The Association of Superannuation Funds of Australia
(ASFA) hailed the Ralph Report and the Government's response to it
has been hailed as positive and balanced.
ASFA stated:
Super fund members will gain through only two
thirds of capital gains being taxed, thereby reducing the tax rate
on such gains from 15% to 10%. While part of this benefit will be
reduced due to a loss of indexation benefits, the Report estimates
that super funds will pay $100 million less in CGT each year,
thereby boosting member balances.
While we don't object to the capital gains tax
(CGT) exemption proposed for foreign pension funds, ASFA suggests
that the government take a lead from the USA, UK, Japan, Germany,
France and Canada, and similarly make Australian super funds CGT
and other income tax-exempt.(55)
ASFA praised the decision to exempt capital gains earned through
pooled development funds by Australian superannuation funds from
tax, and welcomed significant improvements in the review's report
compared to options canvassed in the consultation document
Platform for Consultation, namely:
-
- Taxing pooled superannuation trusts as companies (i.e.,
replacing the existing 15 per cent tax superannuation
rate for with the company tax rate of 36 per cent) and
providing a complex system of franking credits that allowed for a
21 per cent tax refund at some later date.
-
- Taxing CIVs as companies (i.e., replacing the tax treatment of
collective investment vehicles pay zero tax as long as investment
income is distributed to the unit holders who pay tax at their
marginal rate) with a system where the fund paid tax at the
corporate tax rate (36 per cent) and investors receive franking
credits equivalent to their share of the fund income paid in
tax.
The Investment and Financial Services Association's (IFSA)
stated that overall, the Government's proposals are pro-savings and
investment, and the Ralph Review is to be applauded.(56) IFSA also
applauded the Review for not proceeding with the options canvassed
in the consultation document Platform for Consultation
regarding pooled superannuation trusts and CIVs.
These proposals were dropped from the final Report, due to the
realisation no doubt that pooled superannuation trusts and CIVs are
not used to income split or minimise tax, and learning of the
likely cash flow disadvantages and permanent competitive detriment
that would be placed on these arrangements from the proposals.
The response of life insurers to the announced measures has been
rather curious in that life insurance companies are to pay an
additional company tax of over $500 million per year, yet there
have been few complaints. The taxation of life insurance companies
is complex, with five different tax rates applying to different
insurance products. Underwriting income is presently exempt from
tax, as is profit from investment management. It has been argued by
Mr John Giannakopoulos of Deloittes Touche Tomahtsu that the
Government was concerned that life insurance companies might be
sheltering income and surplus money in low-tax operations, like
statutory funds with superannuation business. He argues:
The money that's in these statutory funds is
supposed to represent policyholder liabilities but you might have,
say, some funds in there that are surplus to policyholder needs.
Whether that abuse is actually happens or not is another
matter.(57)
Given the low level of public comment about the measures
affecting life insurance companies (or perhaps more accurately,
'superannuation' companies since over 80 per cent of the business
written by life insurance companies is superannuation
business(58)), there may be something to the comments of Mr
Giannakopoulos. Alternatively, since many life insurance companies
are involved in other commercial activities (such as banking,
general insurance superannuation and management investments) the
effect of increased tax expenses may be offset by gains in other
areas of their operations.
The financial services sector also will be boosted by the
proposed changes to capital gains tax for superannuation funds
investing in pooled development funds, which will boost the pool of
short-term speculative capital. This pool will also be boosted by
the explicit tax exemption for pension funds from the USA, UK,
Japan, Germany, France and Canada on income and capital gains taxes
derived from the disposal of investments in new equity in eligible
venture capital projects.
The sector will also be boosted by the availability of optional
roll-over relief from capital gains tax for exchanges of membership
interests in companies or fixed trusts in takeovers involving at
least one widely held entity. This provision will overcome the
impediment that capital gains tax places on corporate acquisitions.
In addition, it will encourage start-up and innovative enterprises
to remain in Australia by providing roll-over relief when a venture
capital project proceeds to an initial public offering.
Appendix 8: Impact on Small
Business
Commentary by Commentary by Mr Michael
Emmery, Research Specialist Economics, Commerce and Industrial
Relations Group
Representatives of small business put strong submissions to the
Ralph inquiry pointing to the potential adverse impacts of proposed
business tax reforms on this sector and seeking special treatment
for small business in a number of key areas. The Council of Small
Business Organisations of Australia (COSBOA) emphasised that:
-
- Only 12 per cent of small businesses, i.e. taxable companies,
technically benefit from a lower corporate rate, and the bulk of
these hold little capital
-
- Amongst unincorporated small businesses, some 32 per cent would
potentially lose access to accelerated depreciation with no benefit
from a lower corporate tax rate, and
-
- Costs of complying with taxation laws, and the lack of
compensation for those costs, is one of the most important issues
of concern to small business today.(59)
The Government responded positively with the inclusion in The
New Business Tax System announced on 21 September 1999 of a number
of measures specifically aimed at benefiting small business. The
main measures are:
-
- Extension of the current capital gains tax exemption for small
business which will result in individuals owning small business
being liable for tax on a maximum of 25 per cent of their capital
gains when they sell business assets
-
- Full exemption from capital gains tax on the disposal of a
business asset which has been held continuously for 15 years and
where the taxpayer is at least 55 years of age and intends to
retire, or is incapacitated
-
- A simplified depreciation scheme for small business which
should greatly reduce the paper work and effectively maintain its
access to accelerated depreciation
-
- A simplified treatment of trading stock, and
-
- The proposed future move to a more straight forward and less
costly cash accounting regime.
The response from small business has been
favourable. Chief Executive of COSBOA, Rob Bastian, noted:
The government has targeted its response to
Ralph directly at small business. All areas bar one [assistance
with compliance costs], which have been identified by the sector,
are clearly addressed or ear marked to be addressed against an
understandable timeline.(60)
COSBOA listed the main pluses from the package as the changes to
capital gains tax, cash accounting, the depreciation changes and
the simplified treatment of trading stock. It noted also that more
work is needed on compliance costs and the taxing of small business
trusts as companies.
Accounting representatives said the reforms for small business
were positive and would help ameliorate the added workload of
implementing the GST over the next 12 months(61). However this
question of the administrative and compliance costs for small
business is far from clear. For example, a move to cash accounting
will involve a major upheaval for many small businesses. While they
will likely benefit from the new system in the long run, small
business may incur large adjustment costs simply because they are
less well equipped to deal with major change than their larger
counterparts.
Finally there have been some adverse comments in the Press to
the effect that the Government has gone too far in responding to
the special needs of small business. The Editorial in The
Australian(62) refers to the 'pork-barrelling to small
business'. It argues that, unlike big business, small business is
not paying for its tax cut due to the Government's decision to
continue accelerated depreciation for most small businesses. (Note
this point is not relevant to the majority of small businesses
which are not incorporated and will not benefit from lower company
tax). Ross Gittens in The Sydney Morning Herald(63) also
is critical, referring to 'indulging in so many "carve-outs" for
politically powerful groups-farmers, miners and small
business'.
Appendix 9: Impact on Research
and Development
Commentary by Dr Rod Panter, Research
Specialist, Science, Technology, Environment and Resources
Group
Economic research has consistently shown that research and
development (R&D) generates large benefits to society that far
outweigh the benefits that accrue to the sponsors of R&D. The
strength of those findings persuaded the Industry Commission (later
the Productivity Commission) of the need for the Australian
Government to encourage private R&D activity in Australia by
tilting the level playing field in favour of private R&D.(64)
The Industry Commission left open the question of how that might be
done. However, tax concessions are certainly one of the traditional
methods for encouraging socially desirable activities. As such it
might have been expected that the Ralph Report might have made some
contribution on that issue.
While the words 'research and development', 'innovation' and the
like do not appear prominently in either the Ralph Report or the
ensuing Government decisions, some pluses and minuses for R&D
can be found. Firstly, on the positive side, it has long been
recognised that raising private finance for small
innovation-dependent companies to carry out research and
development is problematic, partly because of Australia's
traditional reluctance to accept business risks associated with
small innovative companies. Many Australian inventions and 'clever'
companies have moved overseas, with little or no value from the
inventions or companies remaining here.
The Ralph Report addresses a frequently criticised aspect of the
Australian tax system, namely, that Australia cannot easily raise
domestic or foreign private R&D funds because of its relatively
high capital gains tax. It can be expected that the exemption on
capital gains tax on foreign pension funds invested in relatively
risky start-up ventures plus a concession on taxes on Pooled
Development funds will slow or perhaps even reverse the flows of
ideas and companies overseas.
Australia's private spending on R&D is proportionately among
the lowest among developed countries. Some major sectors, for
example the $44 billion food industry, are notorious for their
relative neglect of research. Following the 1996 reduction in tax
concession for R&D from 150 per cent to 125 per cent, business
R&D investment is reported to have declined from $4.343 billion
in 1995-1996 to $4.044 billion in
1997-1998. There is evidence for a further decline in business
spending in 1998-1999. The 1996 tax concession reduction meant that
the government subsidy on R&D fell from 18 cents on every
R&D dollar to nine cents.
While the Ralph Review has left the R&D concession unchanged
at 125 per cent, the company tax has been reduced to 30 per cent.
This means that the effective subsidy on R&D has been further
reduced, from 9 cents to 7.5 cents in the dollar. The overwhelming
opinion of research oriented businesses is that the Ralph Review
should have recommended an adjustment to the R&D tax concession
so that at least the nine cent (if not the 18 cent) subsidy could
be restored.
Under present capital gains tax arrangements, capital gains are
calculated by taking the selling price and deducting the purchase
price with the latter being adjusted for changes in the Consumer
Price Index since the time of the original purchase. For those
R&D investments likely to attract capital gains tax, albeit at
a reduced rate, the decision to remove indexation may present
problems for 'patient capital', that is, investment which is not
rewarded in the near term. This is because the new capital gains
tax environment will encourage the targeting of investment in high
growth areas and holdings will tend to be sold off more quickly.
Even if inflation is expected to remain at relatively low levels,
long term investment decisions will still be distorted by the
failure to index the cost base when calculating capital gains.
However, the future course of inflation is simply unknown and
unknowable. Under quite plausible scenarios the taxation of nominal
capital gains may well mean that real capital gains are
taxed at extremely high rates. For example, a company that trebles
in value in 20 years as a result of the combination of real capital
gains plus inflation of 5 per cent per annum would be taxed at 48.5
per cent of the real capital gain under present arrangements for a
taxpayer on the top marginal tax rate. Under the proposed changes,
140 per cent of the real capital gain would be taxed in the hands
of the same taxpayer.
While information technology and communication-type investments
may be relatively unaffected, 'patient capital' is especially
needed in biotechnology industries where R&D tends to be drawn
out. For example, the Australian 'flu drug Relenza took over twenty
years from its scientific conception to reaching the market.
Australia makes a strong claim to have potential for biotechnology
but investment in the sector is inherently risky and the
development of products is usually long-term.
Of course the Government will maintain that the lowered company
tax rate means that businesses will have more available funds from
earnings to invest in R&D. But, given the poor and worsening
R&D performance of established industry, it can be argued that
government more than ever needs to encourage company funds into
R&D. The situation with start-up companies is different; they
are more reliant on grants and/or private investors for funding
R&D and usually cannot make use of tax concessions. Established
industry, on the other hand, must innovate more in order to remain
competitive in a global sense.
In the wake of criticisms of the Ralph Review as regards
R&D, the Government is pointing out that there is to be an
Innovation Summit in February next year which can serve as a
conduit between industry, researchers and government policymakers.
It seems unlikely that any major taxation changes will result from
this meeting, however. One hope for a better outlook for R&D is
for greater government support of research in the higher education
sector. It is most obviously in the earliest stages of R&D,
that is, basic and near-basic research, that the private sector
needs assistance. What is often overlooked, however, is the need
for encouragement of such necessary aspects of R&D as market
research, industrial design, etc. Australian governments have
traditionally been reluctant to fund these and other product
development work. Thus, problems of support for commercialisation
remain.
Appendix 10: Impact of the
Reduction in Capital Gains Tax
Commentary by Mr David Kehl, Research
Specialist, Economics, Commerce and Industrial Relations
Group
The Review of Business Taxation proposes that major changes be
made to the taxation of capital gains. The Review stated that the
purpose of its proposed changes were to 'enliven and invigorate the
Australian equities market, to stimulate greater participation by
individuals, and to achieve a better allocation of the nation's
capital resources'.(65)
A point frequently overlooked in some press commentary is that
current capital gains tax arrangements remain preserved up until
the end of the September quarter 1999. Individuals or complying
superannuation and related funds will have the choice on the sale
of a capital gains tax asset acquired before the end of the
September quarter 1999 to reduce nominal capital gains for tax
purposes by either:
-
- The 'frozen' indexation amount to the end of the September
quarter 1999 (if the asset has been held for more than 12 months),
or
-
- 50 per cent of the nominal gain in the case of
individuals or one third of the gain in the case of complying
superannuation and related funds.
The proposals for capital gains tax are likely to make
assessment much more complicated due the current arrangements being
'grandfathered'. The proposals will lead to creation of three
relevant periods for assessing capital gains tax, namely pre 20
September 1985 assets, assets acquired between 20 September 1985
and the end of the September quarter 1999, and assets acquired
after the end of the September quarter 1999. A complicating factor
is that taxpayers will have the choice on the sale of a capital
gains tax asset acquired before the end of the September quarter
1999, enabling an element of arbitraging to reduce liability for
taxation. These added complexities have made capital gains tax
begin to resemble the grandfathered taxation provisions applicable
to superannuation, which it can be argued, are hardly the model of
simplicity and efficiency.
The impact of the proposed changes will be different for
individual investors depending on when the taxable asset was
acquired. Taxpayers who have a capital gains tax asset acquired
before the end of the September quarter 1999 can choose the method
that minimises their tax liability. Taxpayers who acquired assets
after the end of the September quarter 1999 will pay tax capital
gains tax on a proportion of their nominal gain. For these
taxpayers, the impact may be quite significant.
For example, the proposal tilts the taxation playing field in
favour of assets which generate high capital gains. In Australia
the two highest capital growth asset classes have been equities and
property. Consequently, investment strategies which accentuate
capital growth (such as borrowing to invest) would probably become
more widespread. With capital gains tax more favourable than
income, shareholders may encourage companies to retain earnings (to
boost the capital value of the share) rather than distribute income
via the payment of dividends. Should this strategy become
widespread, there may be adverse consequences for self-funded
retirees (that typically prefer to invest in companies that pay
high dividends) who rely on regular income distributions.
The removal of indexation of capital gains on investment made
after 20 September 1985 will also make investing more
confusing and complex, particularly for small 'mum and dad'
investors. It will also force investors to become far more active
in the way that they buy and sell assets. This is because the real
rate of tax will be lower the faster you sell an asset,
consequently, 'asset churning' (or selling one assets and
purchasing another with the proceeds) may become popular. Over the
longer term, the pool of capital allocated to long-term investments
may be switched to short-term investments.
The Government's rationale for its reforms to capital gains tax
appear contradictory.(66) Share ownership is already at record
levels (due to privatisations and de-mutualisations) and despite
this record level of ownership, a lower capital gains tax needs to
be cut, in the Treasurer's words, 'to encourage [mums and dads] to
come into the stock market'.(67) Share ownership is something that
many people are already undertaking. The proposed changes will
arguable result in behavioural responses by investors that purchase
shares after the end of the September quarter 1999. It is likely to
encourage capital mobility and discourage long term investments (in
effect a reversal of existing arrangements, yet also gives breaks
to superannuation funds that are designed to make long-term
investments). Patient long-term investing will no longer be a
virtue since investors will have to be quick, and savvy, to
capitalise on the reduced tax rate.(68) But 'mum and dad' investors
are, in general, passive investors who prefer unexciting,
slow-growth, blue chip stocks. Some may be shocked to discover that
under the new arrangements for assessing capital gains tax, they
could be liable for more tax, and, in some circumstances be liable
for capital gains tax on real losses (due to the loss of averaging
and indexation on assets acquired after the end of the September
quarter 1999 and the taxation of nominal capital gains).
Small business owners are also major beneficiaries of the
proposed tax reforms. The 50 per cent good will exemption
(currently applying to small businesses with net assets under $2.3
million) will be replaced with a 50 per cent active asset
exemption for all active assets for all small businesses with net
assets of up to $5 million. As a result, individuals operating a
small business will be eligible for the 50 per cent
exclusion from capital gains tax and will be eligible for the 50
per cent active asset exemption on the balance of the capital
gain. At the same time, they will be able to roll the remaining 25
per cent of the gain into replacements assets or apply it towards
the $500 000 capital gains tax retirement exemption. Taken
together, the reform will make investment in a small business a
much more attractive proposition.(69)
There has also been concern that the loss of capital gains tax
indexation and an inflationary shock caused by the introduction of
the GST could mean investors will be worse off under the
Government's capital gains tax changes.(70) This view also has been
endorsed by Mr John Ralph, who argued that the capital gains tax
threshold and rate would need to be adjusted in time to reflect the
effect of inflation.(71)
There also have been concerns that the capital gains tax changes
will lead to serious inequity and rorting. The proposed top rate on
capital gains is 24.25 per cent, which is lower than the proposed
future general corporate tax rate of 30 per cent. It is arguable
that the new tax system is issuing an invitation to tax arbitragers
(that is it encouraging people to take income in the form that
attracts the lowest rate of taxation). Smart investors will do all
they can to maximise capital gains and minimise operating
profits.
Appendix 11: Project Selection
and the Switch from Accelerated Depreciation to Lower Company
Tax
Commentary by Mr David Richardson,
Research Specialist Economics, Commerce and Industrial Relations
Group
As mentioned in the section titled An Alternative View
of the Fiscal Impact, over the life of the project the
value of depreciation deductions is the same whether or not
accelerated depreciation applies. It is only the tax rate itself
that affects total life-of-project returns. However, when making
investment decisions, project sponsors are going to want to take
the timing of the resultant cash flows into account. For example, a
dollar today is worth more than a dollar expected in five years
time. That reflects both the interest that could have been earned
on alternative investments as well as the normal risks associated
with any business investment. (A bird in the hand is worth two in
the bush.) An example of a project is now examined to suggest how
project selection might be changed under the proposed changed
taxation arrangements.
The present example is based on a hypothetical investment of
$200 million which generates a net income (excluding depreciation)
of $30 million per annum over a 14 year period. The accelerated
depreciation provisions currently allow the project to be written
off over 7 years. Under the current company tax arrangements, that
means an after tax income of $29.49 million for 7 years and $19.20
million for the next seven years.(72) However, under the proposed
scrapping of accelerated depreciation allowances and the 30 per
cent tax rate, the after tax income would be $25.29 million for
each of the 14 years life of the project. Under the proposed
changes the investor faces a loss in after tax income in the early
years of the project but receives an increase in the second half of
the project.
There are a number of ways the investor may look at the project
under the two regimes. Firstly, and rather crudely, the total after
tax income is $340.8 million under the current arrangements and
$354.0 million under the proposed arrangements with the lower
company tax rate. Notice that over the life of the project the
value of depreciation deductions is the same whether or not
accelerated depreciation applies. It is only the tax rate itself
that affects total life-of-project returns.
Second the investor may use a more sophisticated investment tool
and calculate the present value (PV) of the project. The after tax
return in future years is discounted back into present values and
aggregated to give a total value. A positive number indicates that
the project earns more than the (risk-adjusted) cost of capital
employed. Assuming an interest rate hurdle of 9.5 per cent is
chosen (that can be justified as a risk premium of approximately
300 basis points over the current long term interest rate on
government bonds) then the project has a positive PV of $4.8
million. Under the proposed arrangements the PV turns negative and
becomes minus $3.7 million. Hence under these assumptions and using
the PV criteria, the decision-maker would accept the investment
under present arrangements but would be forced to reject the
project under the proposed arrangements.
As a third criterion we can calculate the payback period. The
payback period tells the investor how long it is going to take to
get back the money expended on the project. It is the period over
which the investor is out of pocket. This is a common decision
tool. While crude, it at least gives the investor in an uncertain
world the length of time it takes before the breakeven point. Since
potentially anything can happen to a real world investment, the
shorter payback period means the time during which there is a risk
of loss is minimised. Under the current tax arrangements and using
the above example, the payback period is 6.8 years. Under the
proposed changes the payback period is 7.9 years. This seems quite
a significant extension in the time before the breakeven point is
reached.
We might use something a little closer to an important real
world example. In 1997 Mitsubishi sold 59 275 locally produced
Magna vehicles, 41 579 were sold locally and the rest exported.(73)
No doubt Mitsubishi would not base its planning on the assumption
that it could always maintain this figure. Export sales are often
problematic and new models can flop. Mitsubishi would probably want
to base its planning on a cautious scenario under which its sales
may fall to about 40 000. Retooling for a new model costs roughly
$1 billion and new model series tend to run around 8 years. Profit
before interest depreciation and tax tends to be around 25 per cent
of wholesale prices(74) or around $5500 a medium or upper medium
vehicle. Suppose Mitsubishi's head office is looking for a rate of
return on capital of 10 per cent-the rate that they would use in
their calculations to discount future values to the present. On
these figures we find that Mitsubishi has a positive PV of $44
million. However, with the proposed changes in the tax arrangements
Mitsubishi's PV would have a negative value of minus $7.0 million
on these assumptions and the project would be scrapped.
If we turn to the payback period for Mitsubishi the results of
our modelling show that the payback period increases from 4.5 years
to 5.2 years, an increase of roughly seven months before Mitsubishi
gets its money back.
Of course we do not have any inside knowledge of Mitsubishi's
thinking. In addition, it has to be stressed that if one was
actually doing this sort of exercise for Mitsubishi there would be
a thousandfold increase in the complexity of the accounting and
other data that would have to be fed into the modelling of the
discounted present value and payback period. The capital outlay
alone is obviously not a single point outlay. To begin with there
would be a host of engineering, market research and feasibility
studies and the outlay would be spread over a good deal of time.
Also we can only guess at the rate of return that Mitsubishi might
require. Indeed, all of the assumptions here are illustrative only.
Nevertheless, the modelling does indicate that projects such as
Mitsubishi's new-model-retooling may well be sensitive to the
planned change in the tax arrangements.
Endnotes
-
- The New Business Tax System, Press Release No 58 of 21
September 1999 by the Treasurer, The Hon. P. Costello, MP, p.1.
- Tax Reform, not a new tax a new tax system: The Howard
Government's Plan for a New Tax System: Circulated by the Hon.
Peter Costello MP, Treasurer of the Commonwealth of Australia
(AGPS) August 1998, Chapter 3, pp. 107-127.
- Press Release No. 81 of the Treasurer dated 14 August 1998.
- Publication: Review of Business
Taxation - A Tax System Redesigned; Explanatory
Memorandum: A New Tax
System (Income Tax Assessment) Bill 1999; Legislation: A New Tax System (Income Tax
Assessment) Bill 1999; Treasurer's Press Release:
The New Business Tax System; Treasurer's Press
Release:
Small Business and Primary Producers to Benefit from the New
Business Tax System; A New Business Tax System: Press Releases A
New Tax System: Time Line.
- The New Business Tax System, Press Release No 58 of 21
September 1999 by the Treasurer; Attachment A.
- ibid., Attachment B.
- ibid., Attachment D.
- ibid.
- ibid.
- ibid., Attachment E.
- ibid., Attachment F.
- ibid., Attachment G.
- ibid., Attachment H.
- ibid., Attachment H.
- ibid., Attachment I.
- ibid., Attachment P.
- ibid., Attachment Q.
- ibid., Attachment R.
- Report of the Review of Business Taxation-A Tax System
Redesigned, Recommendation 4.1; Section 4, p. 155.
- ibid., Section 4, p. 156.
- ibid., Recommendation 20.1, Section 20, p. 627.
- A Platform for Consultation-Discussion Paper 2, Volume
II released by the Review of Business Taxation, Chapter 33,
paragraphs 33.58-33.59, p. 709.
- ibid., Recommendation 23.2 pp. 684-685.
- A Platform for Consultation-Discussion Paper 2, Volume
II, released by the Review of Business Taxation; Chapter 33,
paragraph 33.60, p. 709.
- The Treasurer, Hon. P. Costello, Press Release, 'The new
business tax system,' 21 September 1999.
- See M. White, 'Creative statistics-the Laffer curve and
taxation incentives,' Journal of Australian Political
Economy, vol. 14, April 1983, pp. 63-76.
- The Australian Financial Review, 29 September 1999.
- Department of Finance and Administration, 'Costings of policy
proposals for 1999-00 Budget,' Estimates Memorandum
1999/06, p. 2.
- Ralph, op. cit., p. 731.
- Ralph, op. cit., p. 20.
- This figure is obtained by reading the graph contained in
figure 25.1, page 748 of Ralph, op. cit.
- Ralph, op. cit., p. 746.
- Econtech, 'The long-term effects of tax reform on Australian
industries, Report prepared for The Australian Bankers'
Association,' 24 August 1999.
- Department of Finance and Administration, 'Costings of policy
proposals for 1999-00 Budget,' Estimates Memorandum 1999/06, p. 2
and 12 (emphasis in original).
- Ralph, op. cit., p. 703.
- This assumes that the deductions from 2004-05 on are equivalent
to a series that declines arithmetically for t reach zero in 10
years.
- The New Business Tax System, Press Release No 58 of 21
September 1999 by the Treasurer, The Hon. P. Costello, MP, p.1.
- A Strong Foundation-Discussion Paper, released by the
Review of Business Taxation November 1998, Appendix A, p. 133.
- Report of the Review of Business Taxation - A Tax System
Redesigned; Section 7, p. 286.
- Tax Reform and Community Sector Alliance (TRACSA) submission to
the Senate Select Committee on a New Tax System.
- Centre for Australian Community Organisations and Management,
Australia's Non-profit sector, Working Paper Number 13,
October 1994.
- Business Review Weekly, 23 April 1999, p. 75
- National Farmers' Federation, Farmers Relieved over Ralph
CGT Decision, News Release 21 September 1999.
- NSW Farmers Association, NSW Farmers say "Ralph Tax Review
decisions better than expected", Press Release 21 September
1999.
- ibid.
- National Farmers' Federation, op. cit.
- ustralian Bureau of Statistics, Agricultural Industries
Financial Statistics, 1996-97, Catalogue Number. 7507.
- Econtech, The Long -Term Effects of Tax Reform on
Australian Industries, Prepared by Econtech for the Australian
Bankers Association, Final Report 24 August 1999.
- Review of Business Taxation, op. cit. 747-8.
- Tax 2000 Overview, Australian Financial Review, 22
September 1999.
- 'Australian Business welcomes business tax reforms', Media
Release 21 September 1999.
- 'Ralph Report: Industry Response', Statement by Heather Ridout,
Media Release 21 September 1999.
- Plastics and Chemicals Industries Association Submission on
Reform of Business Taxation, April 1999.
- Treasurer's Press Release, The New Business Tax System, 21
September 1999.
- Association of Superannuation Funds of Australia, Media Release
21 September 1999, Ralph Outcome Largely 'Balanced And
Positive.
- The Australian, 24 September 1999.
- Canberra Times, 22 September 1999.
- Australian Prudential Regulation Authority, 'Table LI3: Life
Insurance Share of Superannuation', Life Insurance Trends-June
Quarter 1999, http://www.apra.gov.au.
- Council of Small Business Associations of Australia,
Response to Ralph Committee Options Paper, Submission No.
174.
- Council of Small Business Organisations of Australia, 'Drought
Breaks in Small Business Tax', Media Release, 21 September 1999.
- Steve Lewis, 'Simpler tax system causes great relief',
Australian Financial Review, 22 September 1999, p. 4.
- 22 September 1999.
- 22 September 1999.
- Industry Commission, Research and Development: Report No.
44, 15 May 1995.
- ibid., p. 598.
- Alan Kohler, "Taxation Reform all Smoke and Mirrors",
Australian Financial Review, 28 September 1999.
- The Hon. Peter Costello, MP, Treasurer, interview with Mr Kerry
O'Brien, 7:30 Report, 21 September 1999.
- Ivor Ries, 'Ralph's Investment Wheel Of Fortune',
Australian Financial Review, 25-26 September 1999.
- Australian Society of Certified Practicing Accountants, 'Small
Business Finds a Voice on Ralph', Media Release of 21 September
1999.
- Tom Allard, 'Double Whammy of GST, CGT May Hit Assets
Sell-Off', Sydney Morning Herald 28 September 1999.
- Paul Cleary, 'Ralph Pushes Further CGT Cut', Australian
Financial Review, 20 October 1999.
- The figuring was performed on a separate spreadsheet and there
may be minor errors due to rounding.
- Department of Industry Science and Resources, The State of
the Australian Automotive Industry, 1997.
- Based on the input output figures for 'motor vehicles and parts
etc.' Australian Bureau of Statistics Input-Output Tables
1994-95: Australian National Accounts, Cat No. 5209.0,
12 March 1999.