D'Ascenzo, Michael --- "The Intent of the Consolidation Regime" [2005] JlATax 7; (2005) 8(2) Journal of Australian Taxation 371

• The Intent Of The Consolidation Regime∗

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THE INTENT OF THE CONSOLIDATION REGIME[∗]

Comment

by

Michael D’Ascenzo

Commissioner of Taxation

Over five years ago in July 1999, The Review of Business Taxation, chaired by John Ralph, noted in recommendation 15.1 of his report the general principles for Consolidation. The report said that “introducing a consolidation regime will involve significant change” and that the “motivation for embarking on such significant change stems from the high compliance costs and high tax revenue costs (and concomitant complex of anti-avoidance provisions) associated with the current tax treatment of company groups ...”.

The Ralph Review set out six principles encapsulating the framework and intent of the proposed Consolidation regime:

1.	that Consolidation is optional, but it is a “one in, all in” for all members of wholly owned Australian-resident groups;
2.	that treatment is to be as a single entity for consolidated groups of wholly owned Australian-resident entities with a single common head entity;
3.	that former grouping provisions would be repealed;
4.	that losses and franking account balances are generally able to be brought into the consolidated group by the entering entities;
5.	that losses and franking balances remain with the group on an entity’s exit; and
6.	that tax values of assets and liabilities be determined by the asset-based model.

The intent of the Consolidation regime can be seen as part of a wider intent to cover business tax reform as whole. The overall objective was a stable, simpler, and more coherent business tax system, which would:

•	optimise economic growth;
•	promote equity; and
•	promote simplicity and certainty.

The Consolidation regime addresses issues specific to corporate groups that have to take into account debt and equity interests, intra-group transactions and the problems associated with multiple layers of ownership. The intent of the Consolidation regime in particular is to tax groups as if they were single entities, so as to address the problems arising from taxing each group company as a single entity and from the dual reflection of value in equity interests and assets.

When the then Minister for Revenue and Assistant Treasurer Senator Helen Coonan announced details of the Consolidation initiative in February 2002, she stressed that making it easier for Australian companies to do business was the aim of the measure. In her media release of 7 February 2002, she said that Consolidation will encourage greater commercial flexibility within group businesses, and that it will free up Australian companies to “pursue business opportunities and become more competitive without the straightjacket of old-fashioned and inflexible tax rules”.

Senator Coonan’s announcement also emphasised that the Consolidation public consultation process would showcase the Australian Taxation Office’s (“ATO”) open and consultative approach that gave taxpayers a greater say in the design of tax laws.[1]

While the role of providing drafting instructions on proposed tax laws has now shifted to Treasury, the ATO has demonstrated an open and consultative approach in developing administrative solutions that best meet the needs of the users in terms of the legislative requirements of the Consolidation regime, in providing taxpayers with guidance on the application of the law, and in the transparency of the active compliance work being undertaken.

1. PROGRESS TO DATE

In my speech to the 20th National Convention of the Taxation Institute of Australia last March I outlined the ATO’s strategic assessment and future directions for bedding down the Consolidation regime. I spoke of the ATO’s achievements in administering the “significant change” introduced by the Consolidation legislation, including the enactment of over 600 pages of technically challenging law, supported by over 80 Public Rulings and Tax Determinations and a 1,200 page Consolidation Reference Manual. I also spoke about the joint initiative of the Tax Institute of Australia, CPA Australia, and the Institute of Chartered Accountants of delivering a series of “Demystifying Consolidation” workshops to over 900 people, and how the ATO’s Consolidation website receives around 2,000 hits per month.

I also released the Consolidation Management Blueprint, which examines the regime’s history, its current state, and where we would like Consolidation to be in the future. This document is available on our website, at:

http://ato.gov.au/content/downloads/Consolidation_Management_Blueprintv2.pdf.

One of the key observations of the Management Blueprint is that while many of the ATO’s transactional systems that support Consolidation are operational, we continue to closely monitor policy and law developments and interpretations, revenue risks and compliance costs. In conjunction with the National Tax Liaison Group (“NTLG”) we want to respond quickly to emerging issues either through administrative processes or through the referral of such matter to Government via Treasury. Clearly more work is required before Consolidation is bedded down as business as usual. In addition, it will take some time yet to be confident of the fit of Consolidation with other tax measures (eg Taxation of Financial Arrangements, International Financial Reporting Standards, and Review of International Taxation Arrangements) and the tax code more generally.

2. ACTIVE COMPLIANCE WORK

The compliance systems we have developed are now maturing and we are well progressed in our program of risk reviews. We are closely monitoring the findings of these reviews, and are keeping a close eye on any developments or trends that may occur. Early indication from these risk reviews suggest that some of the market valuations undertaken as part of the formation calculations for consolidated groups are not standing up to scrutiny. Additionally, we are seeing some interesting restructures of company groups taking place before, at the point of, and after consolidating. In some cases the commercial rationale for these structures has been difficult to ascertain, understand and test. In others the Consolidation regime has sought to be used to achieve transfers outside the group without a Capital Gains Tax impact. Nevertheless, for the most part, our message to taxpayers throughout this measure’s implementation has been to act reasonably given that the consolidation regime is intended to provide certain benefits for taxpayers. The mere accessing of those benefits intended by Parliament in a straight forward way is within the statutory intent; the achievement of tax benefits outside that context is subject to scrutiny.

The focus of the ATO in the 2005-2006 year will be to audit higher risk cases we have identified during our reviews, or which have subsequently come to light, that have unintended material outcomes occurring. Undoubtedly, new issues will also come under scrutiny in respect of recently lodged returns. We will make these issues public.

3. REVENUE AND POLICY IMPACTS OF CONSOLIDATION

At the end of April 2005, almost 4,000 head companies had notified their intention to consolidate 30,000 subsidiary entities into consolidated groups. Almost 3,000 of those groups are in the SME, Micro and Not For Profit segments. The 1,000 groups from the Large Market represent 20,000 subsidiaries.

We are not currently seeing anything that would cause us to query the delivery of the underlying policy intent of the Consolidation regime, albeit that for some the transitional compliance costs have been high.

Originally the Government announced the cost to revenue of the regime to be around $1 billion, and this figure was adjusted upwards following further development of the legislation and consultation with representative bodies. The revenue appears to be tracking at around the adjusted estimated cost of this measure. What we have seen so far is that the size of the revenue and the capital loss pools has risen as a result of entries of companies into the Consolidation regime, but so far this is still within the boundaries of the revenue projections. As a result, we do not at this stage see any reason to suggest to Government that any change should be made to the broad policy intent, although we have made suggestions to Treasury for some small “p” and technical amendments. We will continue to escalate such matters to Treasury as they come to light, including matters raised with us by business, tax professional or other representative bodies.

4. REDUCING RISK

The ATO’s commitment to co-design has seen business and the professions guide the Tax Office’s public rulings program on Consolidation matters through the NTLG Consolidation sub-committee. These issues are then prioritised, and those priorities shape the ATO’s Rulings and Determinations program. Up to March 2005, the ATO had issued in draft and final form, 6 Public Rulings and approximately 75 Taxation Determinations setting out our view as to how the law operates in relation to aspects of Consolidation. In the last few days draft taxation determinations have been released for comment on issues dealing with the membership of entities connected with Multiple Entry Consolidation. I refer you to TD 2005/D6 to TD 2005/D12. Details of these draft determinations can be found on the ATO website.

It is hoped that new approaches to legislation drafting and the benefits of consultation may in future reduce the need for such an expansive body of supplementary material to explain the legislative intent, particularly for the common case.[2] The expanded TOFA legislation may provide an early indicator whether these new approaches to simplify the law (without the need of a plethora of supplementary products) are well founded.

Whatever be the outcome, the ATO will continue its strong partnership with professional, representative and industry bodies to facilitate the effective implementation of new law. However, a heavy reliance on Public Rulings and Tax Determinations, which must necessarily be produced post the enactment of the law by Parliament, rather than on the law itself (as explained in explanatory memoranda) introduces an inherent lag between the introduction of the legislation and the certainty desired by the community. There is merit in a view that the 80/20 rule should apply to new legislation such that 80% of taxpayers to whom the new law applies – that is the paradigm common cases – and their advisors should be able to reasonably apply the law to their facts without a comprehensive and expanded paraphrasing of the law in Public Rulings and Determinations. That would leave a role for Public Rulings in respect of new law to explain the application of the law to the new or unexpected circumstances that inevitably occur in the real world or to explain the application of the law to the few matters that, notwithstanding the level of consultation that has occurred, turn out to be problematic. And even in this role Public Rulings cannot cure gaps in the law to deal with unintended consequences caused by the law itself.

As far as the NTLG was concerned, the fundamental nature of the changes introduced by the Consolidation regime required a significant amount of explanation and guidance. Even the extensive guidance provided in the 1,200 odd pages of the Consolidation Reference Manual was considered to fall short of the mark in terms of the high level of certainly desired by taxpayers.[3]

The ATO, in partnership with the NTLG, responded through the delivery of a comprehensive program of public rulings and determinations.

Nevertheless, it is appropriate to muse whether without the substantial body of public rulings and tax determinations that have been provided, or which are on the drawing board, taxpayers would have been subject to substantial and significant risk and uncertainty:

•	Where law was enacted, it provided the primary source of certainty for taxpayers, and it was accompanied by a detailed explanatory memorandum.
•	Taxpayers are assisted via a comprehensive Consolidation Reference Manual, and more recently the Income Tax Returns and Consolidation Guide.
•	There has been a substantial amount of educational and training materials made available by the professional bodies and the ATO as well as extensive skilling activities conducted by the professions and the ATO.[4] This includes the ATO Consolidation website, and the “Demystifying Consolidation” workshops and videos.
•	We work together with business and their advisers to find sensible, practical ways of overcoming administrative problems, where the result approximates to the correct substantive legal outcome. We have delivered positive results for business working in this way, overcoming various difficulties to ensure the underlying intent of the policy is achieved. For instance, in response to feedback from business and their advisors we developed short cuts for resetting the tax cost under Div 705 of the Income Tax Assessment Act 1997 (Cth) (“ITAA97”) for depreciating assets for which the decline in value is worked out under Div 40 of the ITAA97.[5] Another example is the recent release of PS LA 2005/9 “Consolidated groups putting their affairs in order following enactment of legislation or release of public rulings and determinations”, that assists consolidated groups to tidy up their affairs following the enactment of legislation or the release of a public ruling or determination (commonly referred to as the “one shot amendment” practice statement).[6]
•	Where taxpayers act reasonably and take positions that are reasonably arguable they are not subject to any culpability penalties.
•	Any subsequent credit amendment would come with interest on any overpayment.
•	The main areas of possible risk appears to be in terms of:
−	Interest on underpayments – but remission of part of the General Interest Charge is possible in cases where genuine uncertainty exists. In any event this situation will be mitigated under the Review of Self Assessment proposals. The Shortfall Interest Charge contemplated under ROSA would reflect the time value of money only and therefore would be a lower rate than the current General Interest Charge.
−	Taxpayers may incur additional transitional compliance costs associated with any reworking that might be required. However, to the extent that taxpayers followed the Consolidation Reference Manual, the level of rework would be about the same as is currently the case; and
−	Taxpayers may be subject to potential exposures where there was announced but unenacted law, and they anticipated the law in a way that was not consistent with the law as enacted. However, as early as December 2003 the ATO indicated that taxpayers who act reasonably would not be subject to culpability penalties and that the deductible General Interest Charge would be remitted to the base rate interest change component only.[7] This has subsequently extended to other scenarios in August 2004[8] and by Practice Statement PS LA 2005/9 which covers the ATO’s approach to the remission of General Interest Charge and penalties where a consolidated group seeks an amendment to its 2002-2003 or later income tax assessments.

In individual cases of genuine uncertainty, a Private Binding Ruling system is in place to deal with case specific issues.

Note also that the Government has recently extended the period of time that consolidated groups can make or revoke certain transitional elections. Affected taxpayers now have until

31 December 2005 to review their transitional choices and election in relation to:

•	retaining the existing tax cost for assets or resetting their tax cost;
•	utilising certain losses over three years;
•	the “value donor” concessions for calculating an entity’s available fraction;
•	waiving the capital injection rules where the value donor rules could apply; and
•	cancelling a loss on the transfer of a loss.

If appropriate, taxpayers can make new choices and elections. It must be noted however that the election to form a consolidated or Multiple Entry Consolidated group will remain irrevocable.

5. CONCLUSION

Consolidation has been with us for more than five years, and we are all in a better position to understand its impacts from various lenses including commercial, legislative and administrative perspectives. Consolidation involved transitional costs but the pot of gold at the end of this journey will be in the form of reduced complexity and increased flexibility in commercial operations.

The legislative, information and administrative building blocks are now in place to enable most groups to confidently decide whether or not to enter into the regime. Nevertheless, more work is required to bed down what is a significant and fundamental change to the business tax system. You have the ATO’s commitment to:

•	active and responsive consultation and co-design with the community on administrative matters through forums such as the NTLG Consolidation sub-committee;
•	maintaining our administrative design focus to improve the system-in-use as we see its operation in practice and its integration with other reforms measures and the existing tax code;
•	working closely with Treasury in championing improvements to the Consolidation regime based on our administrative experience including opportunities to reduce compliance costs or to fix unintended consequences;
•	transparency in what we find from our active compliance activities; and
•	ensuring that Consolidated groups garner the benefits associated with the Consolidation regime in accordance with the legislative intent.

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[∗] Paper presented at the Consolidation Symposium in May 2005.

[1] In May 2002 the tax design function was transferred to Treasury.

[2] See minutes of NTLG of 17 June 2004.

[3] Certainty of course is provided only through the law. Binding rulings provide comfort for the particular taxpayers that come within their ambit but do not oblige these taxpayers to adopt the view expressed in the ruling. Taxpayers who take reasonable care with their tax obligations are left to choose whether to follow the view of the law expressed by the ATO, or to take a reasonably arguable other view of the law.

[4] R Richards, “Thumbs Up for the ATO” (2004) 74(8) Australian CPA 68, 71: “notwithstanding all that, the Taxation Office must be congratulated on the efforts that it makes to help professional understand this new law. The service one gets from the consolidation project ream is exceptional (although, to be fair, one has to concede that mostly the Taxation Office is professional and generous in its efforts to educate the profession)”.

[5] PS LA 2004/12: “Consolidation – General short cuts for resetting the tax cost under Division 705 of the Income Tax Assessment Act 1997 (ITAA 1997) for depreciating assets for which the decline in value is worked out under Division 40 of that Act”.

[6] PS LA 2005/9: “Consolidated groups putting their affairs in order following enactment of legislation or release of public rulings and determinations”.

[7] Commissioner’s Media Release 2003/117.

[8] Administrative treatment of retrospective legislation:

http://atogovau/taxprofessionals.