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TAX LAWS AMENDMENT (2006 MEASURES NO. 4) BILL 2006
Bills Digest no. 16 2006–07
Tax Laws Amendment (2006 Measures No. 4) Bill 2006
WARNING:
This Digest was prepared for debate. It reflects the legislation as introduced
and does not canvass subsequent amendments. This Digest does not have
any official legal status. Other sources should be consulted to determine
the subsequent official status of the Bill.
CONTENTS
Passage History
Purpose
Background
Concluding Comments
Endnotes
Contact Officer & Copyright Details
Passage History
Tax
Laws Amendment (2006 Measures No. 4) Bill 2006
Date introduced: 22 June 2006
House: House of Representatives
Portfolio: Treasury
Commencement: The operative provisions of
the Tax Laws Amendment (2006 Measures No. 4) Bill 2006 commence on receiving
Royal Assent. Schedules 1, 2 and 4 as well as Schedule 3, items 1 and
2, will also commence upon the Bill receiving Royal Assent. Schedule
3, items 3 to 5 will commence retrospectively on 13 December 2005.
| CGT |
capital gains tax |
| ITAA 1997 |
Income Tax Assessment
Act 1997 |
| ITAA 1936 |
Income Tax Assessment
Act 1936 |
| OECD |
Organisation for Economic Co-operation and Development |
| OECD Convention |
OECD Model Tax
Convention on Income and on Capital |
Purpose
The Tax Laws Amendment (2006 Measures No. 4) Bill 2006 (Bill) is an omnibus
bill with each of the Schedules having its own purpose. They are set out
as part of the analysis of each of the four Schedules below.
The Backgrounds to the respective Schedules will be, where
necessary, discussed as part of the analysis of each of the Schedules
below.
The following Part only provides a brief discussion of the individual
schedules. To avoid duplication between the Bills Digest and the Explanatory
Memorandum, the reader may be referred to specific passages in the
Explanatory
Memorandum, for example, where examples highlight the operation of
the proposed new laws.
Schedule 1 will make modifications to the provisions regulating capital
gains tax (CGT) implications applying to asset disposals triggered by
marriage breakdowns. Where a capital gain or loss applies to an asset
disposal arsing as a consequence of a marriage breakdown, it can be ignored.
With respect to the current arrangements, the CCH Australian Tax Master
Guide 2006 notes that:
A compulsory same-asset roll-over happens if a CGT event
involves an individual (the transferor) disposing of an asset to, or
creating an asset in, his/her spouse or former spouse (the transferee)
because of: (a) a court order under the Family Law Act 1975 or
a corresponding foreign law; (b) a court-approved maintenance agreement
or a similar agreement under a foreign law; or (c) a court order under
the State Territory or for a law relating to an de facto marriage breakdowns
(s 126-5).(1)
The changes contained in this Bill were announced by the then Minister
for Revenue and Assistant Treasurer, the Hon. Mal Brough,
in 2005.(2)
Items 1 and 2 propose changes to Subdivision 118B of the
ITAA 1997. Subdivision 118B provides a framework under which certain capital
gains or losses arising from a CGT event affecting a taxpayer’s main residence
may be ignored. Section 118-110 provides for the so-called basic case,
subsequent sections provide expansions and limitations of the basic
case exemption.(3)
Item 1 inserts proposed section 118-75 concerning marriage
breakdown settlements. It will provide that a capital gain or loss can
be disregarded if there is a direct link between the gain on loss and
an asset disposal arising as a result of the breakdown of a marriage.
The provision also requires that it is reasonably likely that the breakdown
is permanent. Whether separation has occurred, is to be determined under
the provisions of the Family Law Act 1975.
Item 2 inserts proposed section 118-178 which will provide
a limitation to the basic case exemption where the CGT event occurs
as the result of a marriage breakdown rollover pursuant to Subdivision
126A ITAA 1997.
Items 3 and 7 add additional subsections to sections 126-5
and 126-15 of the ITAA 1997. Proposed subsection 126-5(3A) and
126-15(5) ensure that not only court-ordered CGT events come within
the ambit of the marriage breakdown roll-over provisions, but also those
which are the result of an arbitral award or certain written agreements.
However, the CGT events triggered by arbitral awards and certain written
agreements will only benefit from the marital breakdown roll-over exemptions
if certain conditions can be fulfilled (items 4 and 8).
The conditions will be set out in item 9, proposed section 126-25
and include that:
- the couple has separated
- the separation is reasonably likely to be permanent, and
- the CGT trigger event is directly connected with the breakdown of
the marriage of the fact of marriage.
The measures is this Schedule will apply after this law receives Royal
Assent. According to the Explanatory
Memorandum, the financial impact and the compliance costs are expected
to be minimal.(4)
The proposed new law will allow the marriage breakdown roll-over provisions
to apply in situations where the transfer of assets is the result of out-of-court
settlements rather than court orders. The out-of-court settlements contemplated
in this measure are arbitral awards and certain written or financial binding
agreements. Parliament may note that the measure will make no changes
to availability of the roll-over relief: only heterosexual couples, married
or in de-facto relationships, will benefit from the expansion of
the relief.(5) It will continue to be unavailable to same-sex
couples.(6)
Schedule 2 proposes changes to the consolidation rules relating to consolidated
groups or Multiple Entry Consolidated (MEC) groups.(7) Specifically,
the measure proposes to make changes to the Income Tax (Transitional
Provisions) Act 1997 (ITTPA) to remove a potential tax impediment
to demergers.
For the purposes of consolidation, the application of certain pre-formation
roll-over provisions is currently ignored to avoid a head company artificially
increasing the tax cost settings of assets prior to, for example, a merger
(section 701-35 ITTPA).(8)
However, where a demerger is planned, the demerging group may transfer
assets between its members in order to facilitate the demerger. In this
instance, ignoring the pre-formation roll-over provisions can deprive
the demerging group of the benefits of the roll-over—an important consideration
for the viability of a demerger. On the basis that tax considerations
ought not to be an impediment to a demerger, the Explanatory
Memorandum clarifies that the application of these provisions in such
circumstances is considered to be ‘inappropriate’.(9) For further
information, including in relation to the context of the proposed measure,
the reader is referred to the discussion in the Explanatory
Memorandum.(10)
The proposed changes relate to current section 701-35 ITTPA. Item
6, proposed subsection 701-35(2A) will provide that under certain
circumstances pre-formation roll-overs will not be ignored, removing a
significant impediment to demerging. Proposed paragraphs 701-35(2A)(a)
to (c) will stipulate three cumulative prerequisites which
must be fulfilled for this subsection to be triggered.(11)
Schedule 2 will apply retrospectively from 1 July 2002 (item 8). The anticipated
costs to revenue are estimated to be a total of $35 million, that is,
$20 million for the financial year 2006-07, and $5 million for each of
the financial years 2006-07 to 2009-10.
Schedule 3 contains amendments to the trans-Tasman simplified imputation
system measures. The measures have not been previously announced.
In 2003, the Australian and New Zealand
governments agreed to implement measures to overcome what is generally
referred to as the ‘triangular tax problem’.
The ‘triangular tax problem’ occurs where:
Australian shareholders in a New
Zealand company operating in Australia
were unable to access Australian sourced franking credits, with the
same problem applying in reverse for New
Zealand shareholders in Australian
companies operating in New Zealand.(12)
Because companies were required to pay taxes without being able to pass
on franking credits to its shareholders, the triangular tax problem resulted
in the double taxation of distributions. To overcome this problem, both
jurisdictions implemented legislation which enabled trans-Tasman companies
to maintain franking or imputation credit accounts reflecting the tax
paid in the respective comfort country.(13) For further background
on the introduction of the measures introduced to overcome the triangular
tax problem, the reader is referred to Bills Digest
No. 175 of 2002-03.(14)
Currently, the triangular tax problem still exists in relation to non-assessable
non-exempt income. The Explanatory
Memorandum notes that the current legislation does not operate as
intended in relation to this income. Schedule 3 will make changes to the
simplified imputation system to ensure that franked distributions by a
New Zealand
company, which are exempt or non-assessable non-exempt income, can be
passed on by the Australian company on a pro-rata basis to its shareholders.
Item 1 inserts proposed section 220-350 into the ITAA 1997.
This provision will provide that a franking credit will arise for the
Australian company, where a New Zealand
company makes a franked distribution either out of:
- attributed income (non-assessable non-exempt income pursuant to section
23AI ITAA 1936)
- non-portfolio dividend (non-assessable non–exempt income pursuant
to section 23AJ ITAA 1936), or
- attributed foreign investment fund income (non-assessable non-exempt
income pursuant to section 23AK ITAA 1936).
Where the distribution is only partially made as non-assessable non-exempt
income, proposed subsection 220-350(3) will ensure that the amount
of franking credit on the distribution is available only for this part
of the distribution.
Item 3 of Schedule 3 makes a consequential amendment to the ITAA
1936 to ensure that companies’ conduit foreign income is reduced to reflect
the franking credit arising under proposed section 220-35 ITAA 1997.
The amendments apply retrospectively from 1 April 2003. This is the date from which New
Zealand companies could maintain franking
accounts in Australia.
The Explanatory
Memorandum estimates that the financial impact of this measure will
be nil, with only negligible compliance costs for taxpayers.(15)
Schedule 4 proposes substantial and consequential amendments to the ITAA
1997, ITAA 1936 and the Financial Corporations (Transfer of Assets
and Liabilities) Act 1993 to implement rules relating to capital gains
or losses of foreign residents.
Under the current law, a foreign resident makes an income tax relevant
capital gain or loss from a particular capital gains tax (CGT) event if
the asset at the heart of the CGT event has the necessary connection with
Australia.
Under the proposed measures, foreign residents will only be taxed if the
CGT event relates to an asset which qualifies as ‘taxable Australian property’
as defined under the new law.
The measures were promised in the 2005/06 Budget. The Hon.
Peter Dutton, Minister for Revenue and Assistant Treasurer,
announced the measure on 22 June 2006. The Minister highlighted four for introducing
the measure, including:
- enhancing Australia’s
status as an attractive place for business and investment
- addressing the disincentives to foreign investment (and regional
holding companies) in Australia
arising from the current broad, but ineffective, application of CGT
to foreign residents
- narrowing the range of assets on which a foreign resident is subject
to Australian CGT to Australian real property, and the business assets
of Australian branches of a foreign resident, and
- protecting the integrity of this narrower CGT tax base.(16)
Further, the measure is said to better align the Australian tax framework
with the recommendations by the Organisation for Economic Co-operation
and Development (OECD), especially as framed in the OECD Model Tax
Convention on Income and on Capital (OECD Convention).
The core rules of this proposed measure will be contained in proposed
Division 855 of the ITAA 1997—Capital Gains and foreign residents
(item 2, Schedule 4). Division 855 will be comprised of two subdivisions,
with proposed Subdivision 855A stipulating the circumstances in
which a foreign resident can disregard a capital gain or loss and proposed
Subdivision 855B providing special rules for situations in which
certain taxpayers become Australian residents for tax purposes.
Proposed section 855-5 will set out the objects of the subdivision
which are to improve:
- first—Australia’s
status as an attractive place for business and investment (paragraph
855-5(1)(a)), and
- second—the integrity of the CGT base (paragraph 855-5(1)(a)).
The provision also explains that the proposed measure will further align
Australia’s
tax laws with international tax practice.
Proposed section 855-10 stipulates:
- that a capital gain or loss can be disregarded if the person is a
foreign resident just before the CGT event occurs and this event occurred
in relation to an asset that is not ‘taxable Australian property’
(paragraphs 855-10(1)(a) and (b)), and
- the CGT assets in relation to which CGT events can occur (subsection
855-10(2)).(17)
Proposed section 855-15 defines the five categories of CGT assets
which are considered to be ‘taxable Australian property’. Assets which
are taxable Australian property include:
- taxable Australian real property (that is, pursuant to proposed section
855-20, any real property situated in Australia, but also mining,
prospecting or quarrying rights)
- certain indirect Australian real property interests (these are certain
interests held through interposed entities, proposed subsection 855-25(1))
to strengthen the CGT tax base(18)
- those used in carrying on a business through a permanent establishment
in Australia
(within the meaning of section 23AH ITAA 1936). Proposed section
855-35 provides that capital gains or losses from business assets
must be reduced if the assets were used for business purposes only for
part of the period between their acquisition and the CGT event
- option or rights to acquire the above interests, and
- CGT assets covered by subsection 104-165(4) ITAA 1997.
These changes will mean that foreign residents who invests in shares
in Australian companies or holding interests in certain trusts will benefit
significantly.(19)
Proposed section 855-25 stipulates that interests held by a holding
entity in another entity (called the test entity) are indirect
Australian real property interests if:
- the non-portfolio interest test (paragraph 855-25(1)(a)
– this test is defined in proposed section 960-195, see below),
and
- the principal asset test (paragraph 855-25(1)(b) –
this test is defined in proposed section 855-30, see below)
are fulfilled.
Proposed section 855-30 defines the principal asset test.
Proposed subsection 855-30(2) stipulates that an interest held
by a holding entity in a test entity fulfils the principal asset test
if the market value of the test entity’s assets, which constitute taxable
Australian real property, exceeds the market value of those assets which
are not taxable Australian real property. Proposed subsection 855-30(4)
contains specific rules in relation to the treatment of the market value
referred to in proposed subsection 855-30(2). This subsection is
linked to several forms of participation interests which are further defined
in proposed Subdivision 960-G—Participation interests in entities.(20)
Proposed section 855-40 makes provision for the tax treatment
of foreign residents in relation to fixed trusts. A foreign resident may
disregard gains derived from an interest in a fixed trust if the gain
is attributable certain CGT asset held by the trust directly or indirectly
and the asset is not taxable Australian property within the meaning of
proposed section 855-15 or fulfils the conditions set out in proposed
subsections 855-40(5) to (8).
Proposed subdivision 855B sets out the rules which govern the
situation where certain foreign residents become Australian residents
for taxation purposes.(21) This subdivision applies to individual
taxpayers and entities (proposed section 855-45), trusts (proposed
section 845-50) and controlled foreign companies (proposed section
855-55).(22)
The measure requires a number of consequential and other amendments.
These include amendments in relation to the managed fund provisions (for
example, items 29, 40 or 87), interests in active foreign
companies (items 83 to 86), provisions concerning currency
calculation (items 97 to 99) and several additions to, and
deletions from, the definition set out in section 995-1 (items 100
to 108). These amendments also include changes to:
- sections 104-160, 165 and 170 ITAA 1997—CGT
event I1 and I2: Individual, company or trust stops being a resident.
The amendments will ensure consistency between the proposed new regime
applying to foreign residents and the provisions dealing with a taxpayer
ceasing to be a Australian tax resident, and
- Division 128 ITAA 1997—reflecting the changes of this Schedule
in relation to the current provisions regulating the consequences of
death for CGT purposes, especially the transfer of assets held by a
foreign resident just before dying to a legal personal representative
or beneficiary.(23)
The cost to revenue is expected to be $50 million for 2006-07, and $65
million for each of the following years. The Explanatory
Memorandum notes that it is unlikely that the measure will cause large
compliance costs for taxpayers. However, it is noted that the some foreign
investors have increased compliance costs if they have ‘indirect holdings
in Australian real estate property’.(24)
Foreign investors holding shares in Australian companies and interests
in certain trusts will gain significant benefits from this measure because
these interests are excluded from CGT for foreign residents under the
proposed regime. It has been noted that the measure is likely to be successful,
providing a good stimulus for merger and acquisitions.(25)
In their legal update of 20 July
2006, tax experts from the national law firm Minters Ellison
identified several likely results from this measure, including:
- Increased activity by non-residents in Australian unlisted companies
and unit trusts, and in interests of 10% or more in Australian
listed companies, where the underlying assets do not comprise predominantly
Australian real property
- [that] Australia
will become a more desirable holding company location
- [that] non-residents will be more likely to structure the carrying
on of a business in Australia
via an Australian subsidiary entity rather than an Australian branch,
and
- An increase in Australian investment by non-residents.(26)
Concluding comments
Where necessary, comments to each Schedule can be found immediately after
their respective discussion.
- CCH, CCH Master Tax Guide 2006, Melbourne, 2006, p. 763.
- M Brough, then Minister for Revenue and Assistant Treasurer, Extending
The Marriage Breakdown Capital Gains Tax Roll-Over Relief And Related
Amendments, Media
Release, Canberra, 4 May 2005.
- The basic case stipulates that capital gains or losses made
from a CGT event that occur in relation to a taxpayer’s dwelling or
the taxpayer’s ownership interest in a dwelling can be disregarded in
certain circumstances.
- Explanatory
Memorandum to the Tax Laws Amendment (2006
Measures No. 4) Bill 2006, p. 4.
- According to Mal Brough MP, then Minister for Revenue and Assistant
Treasurer, the tax relief was specifically not extended to same-sex
couples because: ‘The capital gains tax rollover on marriage breakdown
should not be the ‘lead vehicle’ for the implementation of social change’.
M Brough, then Minister for Revenue and Assistant Treasurer, ‘Answer
to Question on Notice No. 243 ‘Taxation: Capital Gains Tax’ (Questioner:
M Danby MP), House of Representatives, 9 December 2004, p. 193.
- This is a result of the definition chosen for de-facto in section
995-1 of the ITAA 1997. See also the explanation in Paragraph 1.20 of
the Explanatory
Memorandum, op. cit., p. 12.
- The CCH Master Tax Guide 2006 explains that multiple entry consolidated
groups are groups of ‘Australian resident wholly owned subsidiaries
of a common foreign holding company.’ CCH Master Tax Guide 2006, p.
848.
- ibid., pp. 834–5.
- Explanatory
Memorandum, op. cit., p. 22.
- ibid., pp. 21–3.
- For more information on the main provisions of Schedule 2, the reader
is referred to the Explanatory
Memorandum, ibid., p. 23.
- CCH, op. cit., p. 143.
- In Australia,
the measure was incorporated as Division 220 into the ITAA 1997 by the
Taxation Laws Amendment Bill (No. 6) 2003. See G Selleck and P Prince,
‘Taxation Laws Amendment Bill (No. 6) 2003, Bills Digest,
No. 175, Department of Parliamentary Services, Canberra, 2002-03, pp.
9-11. In New Zealand,
the measure was enacted as the Taxation (GST, Trans-Tasman Imputation
and Miscellaneous Provisions) Act 2003.
- Selleck and Prince, ibid., pp. 9–11.
- Explanatory
Memorandum, op. cit., p. 5.
- P Dutton, Minister for Revenue and Assistant Treasurer, Government
Introduces Further Improvements to the Tax System, Media Release, No.
39, Canberra, 22 June 2006 (http://treasurer.gov.au/pcd/content/pressreleases/2006/039.asp).
- For details and further explanations in relation to the CGT events
covered by this measure, see the Explanatory
Memorandum, op. cit., pp. 35–6.
- ibid., p. 38.
- Deacons, Major Australian capital gains tax reforms for non-residents
introduced, Legal Update, June 2006.
- For a detailed explanation of the participation interests, including
several examples and diagrams which illustrate the operation of the
provision, the reader may refer to the Explanatory
Memorandum, op. cit., pp. 41–52.
- The original provisions dealing with this issue are located in Division
136 which is to be repealed (item 1, Schedule 4) and relocated
to proposed Division 855.
- A controlled foreign company is defined in section 340 of the
ITAA 1936 to mean a company resident in a so-called listed country or
an unlisted country if certain requirements are fulfilled.
- For a detailed explanation of the consequential amendments the reader
may refer to the Explanatory
Memorandum, op. cit., pp. 56–60.
- ibid, p. 5.
- Corrs Chambers Westgarth Lawyers, Capital gains tax and foreign residents,
Legal Update, 30 June 2006.
- P Horden, Legal Update – Capital Gains Tax and foreign residents,
Legal Update, Minter Ellison Lawyers, 20
July 2006.
Thomas John
15 August 2006
Bills Digest Service
Parliamentary Library
This paper has been prepared to support the work of the Australian Parliament
using information available at the time of production. The views expressed
do not reflect an official position of the Parliamentary Library, nor
do they constitute professional legal opinion.
Staff are available to discuss the paper's contents with
Senators and Members and their staff but not with members of the public.
ISSN 1328-8091
© Commonwealth of Australia 2006
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Published by the Parliamentary Library, 2006.
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