House of Representatives

Taxation Laws Amendment Bill (No. 4) 1987

Taxation Laws Amendment Act (No. 4) 1987

Second Reading Speech

By the Minister assisting the Treasurer the Hon. Clyde Holding. M.P.

I move that the Bill be now read a Second time.

This Bill contains a range of measures which have been the subject of announcements of changes to the income tax law by the Treasurer.

Three proposals included in the Bill are budget initiatives.

They are the removal of the "negative-gearing" limitation in relation to rental property investments, reduction in the rate of write-off for capital expenditure on new income producing buildings and income tax averaging arrangements for artists and sportspersons.

A number of provisions in the Bill are intended to deal with arrangements to exploit the operation of the income tax law.

The most significant measure in this area is the introduction of thin capitalisation rules to limit interest deductions of foreign investors in circumstances where their investments are highly geared.

Other "anti-avoidance" provisions deal with financial instruments in the nature of deferred annuities, discounted securities and similar instruments issued to non-resident associates and excessive private company dividends and non-arm's length income of approved deposit funds.

The Bill also includes measures relating to the supervision of occupational superannuation funds, facilitation of "shelf" companies, extensions of the investment allowance and gift provisions and a number of technical amendments.

Thin Capitalisation Measures

The Bill will introduce into the income tax law rules against thin capitalisation to prevent significant losses of revenue that can arise where foreign investors do not maintain an appropriate balance between debt and equity in respect of their income-producing Activities in Australia.

The thin capitalisation rules contained in this Bill were foreshadowed by the Treasurer on 30 April 1987 and generally have effect from 1 July 1987.

They will replace administrative measures that had previously been imposed as a condition for approval of investments under foreign investment policy.

The proposals are directed at those foreign investments in Australia that are excessively geared up through the use of "in-House" loans, that is, loans made available by associated persons such as foreign parent companies and other related entities off-shore.

The measures will effectively impose statutory debt/equity ratios in relation to funding of foreign investments from non-arm's length sources where a non-resident has a 15 per cent or greater interest in an Australian entity or business.

Where foreign debt from such sources exceeds debt/equity ratios of six to one for financial institutions and three to one for other investors, deductions for interest payments will be reduced to the extent that the relevant ratio is exceeded.

While the amendments generally apply from 1 July 1987, under transitional measures borrowings that were approved under foreign investment policy and which exceed the new debt/equity ratios are to be freed from the new rules.

Transitional provisions are also to apply to companies engaged in mineral exploration.

Special provisions will also apply in the initial period of operation of the legislation in relation to the measurement of the level of foreign debt.

As the level of debt will generally be taken at its highest point during the year, affected taxpayers are being allowed until 30 November 1987 to make adjustments to their financial arrangements to ensure that their "in-House" debts comply with the applicable debt/equity ratio.

Asset revaluation reserves are to be taken into account in determining a company's equity for purposes of the debt/equity formula and will, in the first year of the new rules, be valued as at 28 October 1987, rather than at 1 July 1987, to ensure that foreign investors are not unduly disadvantaged by the new rules.

Associated measures, also announced on 30 April 1987, to counter tax avoidance arrangements arising out of certain kinds of corporate restructures, will be included in a later Bil.c

Income Averaging for Artists and Sportspersons

The Bill will also introduce a new system of tax averaging for the specialist income of artists, composers, inventors, performers, production associates and writers.

This measure will give effect to the proposal announced by the Treasurer in the 1986-87 budget to provide, with effect from the 1986-87 year of income, special arrangements designed to smooth Out tax liabilities where-fluctuating incomes would push such people into higher tax brackets.

The provisions of the income tax law which currently provide special treatment for the income of authors and inventors are to be repealed, although a taxpayer eligible to benefit from those provisions will be able to apply, in respect of the 1986-87 year of income only, for those provisions to apply in lieu of the new arrangements.

The estimated revenue cost of the new arrangements is $2m in 1987-88.

Negative Gearing

The Bill will also give effect to the 1987-88 budget announcement that the income tax restriction on the deductibility of interest associated with the negative gearing of rental property investments is to be removed, with effect from the commencement of the 1987-88 income year.

Restoration of full tax deductibility of interest on rental property borrowings will mean uniformity of tax treatment of interest costs for all types of investment.

Madam Speaker, this measure has been made possible only as a result of the Government's comprehensive tax reform program - in particular, due to the implementation of a capital gains tax and the reduction of the top marginal tax rate to 49 per cent.

That reform program has brought a new integrity to the tax system and in so doing has relieved the taxpaying community generally of the burden of the excessive tax benefits that negative gearing offered high income earners prior to July 1985 when the restriction now being lifted was introduce.d

Deductions for capital expenditure on new income-producing buildings the Bill will also reduce the rate of annual deduction allowable for capital expenditure on the construction of new income-producing buildings, from 4 per cent to 2 1/2 per cent.

This reduction, which was announced in the 1987-88 budget speech, is complementary to the Government's restoration of full tax deductibility of interest on rental property borrowings.

The reduced rate of deduction will apply to new buildings, as well as to extensions, alterations or improvements to buildings, that commence to be constructed after 15 September 1987.

Special provisions will preserve the 4 per cent rate for buildings commenced after 15 September 1987 in any cases where the taxpayers who incur the capital expenditure had effectively committed themselves to the construction project on or before that date.

These changes are estimated to produce revenue savings of $3 million in 1988-89, $10 million in 1989-90, $29 million in 1990-91 and $54 million in 1991-92, continuing to rise significantly for many years and exceeding $500 million per annum after 25 years.

Discounted and other deferred interest securities the Bill will also make changes first foreshadowed in an announcement of 19 September 1986 to ensure that the investment return under certain financial instruments which are in the nature of deferred annuities, and provide substantial tax deferral advantages, are taxed on an accruals basis rather than under concessional measures applicable to annuities generally.

Although the financial instruments in question are considered to fall within provisions that require the application of an accruals basis of taxation to discounted securities and certain other financial securities, amendments are to be made to remove doubts that have been expressed as to the operation of those provisions in their case.

The advantages of dressing-up loan arrangements as annuities can be twofold - firstly, lower amounts of interest are assessed in earlier repayment years than would be the case if the money was lent by way of a loan with fixed equal repayment terms an,c Secondly, there can be a significant deferral of assessable income in the case of deferred annuities.

The amendments will ensure that the income element of affected annuities are taxed on an accruals basis and will apply respectively to relevant deferred annuities issued after 19 September 1986 and to immediate annuities issued on or after today.

A later application date is proposed for immediate annuities because the announcements of September 1986 were primarily concerned with the tax deferral advantages of deferred annuities.

The amendments will not affect the existing concessional tax treatment of traditional annuities such as those issued to individuals by life assurance companies.

The Bill will also modify the provisions that apply an accruals-based method of assessment of yields on discounted and certain other securities, to correct a feature that is capable of being exploited so as to give an unintended tax result.

This proposal was announced on 23 April 1987.

As long as an affected security is not issued offshore nor made payable to bearer, the existing law entitles the issuer to deductions for payments of discount or other deferred interest payments on an accruals basis that generally parallels the basis upon which the holder of the security is taxed on those amounts.

Amendments in this Bill will preclude the allowance of deductions on an accruals basis where the security is issued in Australia after 23 April 1987 to or on behalf of a non-resident associate of the issuer. That associate would typically bear tax only by way of interest withholding tax at redemption or prior transfer of the security onshore.

The Bill also incorporates some minor technical adjustments to correct formula calculations for dealing with discounted securities and similar securitie.n

"Shelf" Companies

The Bill will also implement a change to a number of company grouping provisions of the income tax law to give effect to an announcement of 29 June 1987.

The purpose of these measures is to permit a newly incorporated company, commonly referred as a "shelf" company, to satisfy the 100 per cent common ownership test that is applied in various company grouping provisions of the law.

Those provisions permit transfers within company groups of deductions for company losses, excess foreign tax credits, rental property interest and capital losses and for the roll-over of assets for the purpose of deferring liability for tax on capital gains.

The shelf companies affected by these amendments are ones introduced into a company group during an income year but which, although previously incorporated, had been dormant before their acquisition by the group.

The changes will apply to shelf companies first acquired by groups in the 1986-87 income year.

Investment allowance the Bill will give effect to the decision announced by the Treasurer on 12 June 1987 to extend by 6 months, from 1 July 1987 to 1 January 1988, the date by which eligible property must be used, or installed ready for use, if it is to qualify for the investment allowance.

The Government has decided to extend the investment allowance in the light of unavoidable delays that have occurred in the completion of some projects that in all other respects are eligible for the allowance.

In the absence of an amendment the delayed projects would have resulted in a windfall gain to revenue of an estimated $30 million in 1987-88, with a corresponding loss of the same magnitude to the taxpayers involved.

Extension of the cut-off date will defer to the 1988-89 financial year the cash benefit to taxpayers and the cost to revenue.


Amendments are also being made to the gift provisions of the income tax law to permit gifts to the Ninth Australian Division Memorial of Participation (Alamein) Fund and to the Korean and South East Asian and Vietnam War Memorials Anzac Square Trust Fund to attrAct deduction.

Gifts made to these two funds on or after 15 June 1987 and on or before 30 June 1989 will be deductible.

The estimated cost of admitting the Ninth Australian Division Memorial of Participation (Alamein) Fund is $100,000 in each of the years 1988-89 and 1989-90 and that for the South East Asian and Vietnam War Memorials Anzac Square Trust Fund is $50,000 in each of those years.

Approved deposit funds the Bill also introduces measures announced on 12 January 1987 to tax excessive private company dividends and non-arm's length income of approved deposit funds.

The amendment will ensure that approved deposit funds do not abuse the tax-free status they were given when established as part of the Government's 1984 tax pacrage for lump sum superannuation and other retirement payments.

Income affected by this measure will be taxed at the rate of 50 per cent for the 1986-87 income year and 49 per cent for later years. Occupational superannuation also contained in this Bill are measures to effect the handover to the Insurance and Superannuation Commissioner of responsibility for supervision of certain aspects of the Activities of superannuation funds and approved deposit funds currently undertaken by the Commissioner of Taxation.

As foreshadowed by the Treasurer in his Second Reading Speech on the occupational superannuation standards Bill earlier in these sittings, these amendments are part of the legislative package necessary to establish the new supervisory arrangements for superannuation funds.

Superannuation funds and approved deposit funds which comply with operating standards and other relevant conditions administered by the Insurance and Superannuation Commissioner will continue to be exempt from tax on their investment income.

The Commissioner of Taxation will retain responsibility for the assessment of tax on income of non-complying funds, certain private company dividends and excessive non-arm's length income derived by funds and where any excessive or unauthorised benefits are paid from fund.o

The Commissioner of Taxation will also retain responsibility for allowing income tax deductions for contributions made to superannuation funds.

To facilitate these changes, the Bill will also amend the Occupational Superannuation Standards Act 1987 to remedy certain technical and drafting defects as well as enabling a de facto spouse of a member of a superannuation fund to receive benefits from the fund in the event of the member's death.

Amendments of the Taxation Administration Act will permit the Insurance and Superannuation Commissioner to utilise the prosecution provisions of the income tax law against fund trustees who breach requirements in the Occupational Superannuation Standards Act relating to the provision of information and documents.

The amendments proposed to the occupational superannuation provisions of the income tax law are not expected to have any significant effect on revenue.

The Government has also decided that, in view of the substantial increase in recent years in the number of superannuation funds and employees covered by funds and the possible significant revenue implications arising as a result of any across-the-board increases in the level of maximum permissible benefits, responsibility for fixing superannuation reasonable benefit limits will be transferred to the Government of the day.

This change will allow the Government to determine the reasonable benefit limits in the light of its budgetary and other priorities and is consistent with its policy of subjecting tax expenditures to greater scrutiny.

Madam Speaker, an Explanatory Memorandum which comprehensively explains the measures contained in this Bill is being circulated for the information of Honourable Members.

I present the Explanatory Memorandum and commend the Bill to the House.