Product Ruling

PR 2001/81

Income tax: Australian Eucalypt Project 1999

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FOI status:

may be releasedFOI number: I 1024297

Preamble

No guarantee of commercial success

The Australian Taxation Office (ATO) does not sanction or guarantee this product as an investment. Further, we give no assurance that the product is commercially viable, that charges are reasonable, appropriate or represent industry norms, or that projected returns will be achieved or are reasonably based.

Potential investors must form their own view about the commercial and financial viability of the product. This will involve a consideration of important issues such as whether projected returns are realistic, the 'track record' of the management, the level of fees in comparison to similar products, how the investment fits an existing portfolio, etc. We recommend a financial (or other) adviser be consulted for such information.

This Product Ruling provides certainty for potential investors by confirming that the tax benefits set out below in the Ruling part of this document are available, provided that the arrangement is carried out in accordance with the information we have been given, and have described below in the Arrangement part of this document.

If the arrangement is not carried out as described below, investors lose the protection of this Product Ruling. Potential investors may wish to seek assurances from the promoter that the arrangement will be carried out as described in this Product Ruling.

Potential investors should be aware that the ATO will be undertaking review activities to confirm the arrangement has been implemented as described below and to ensure that the participants in the arrangement include in their income tax returns income derived in those future years.

Terms of Use of this Product Ruling

This Product Ruling has been given on the basis that the person(s) who applied for the Ruling, and their associates, will abide by strict terms of use. Any failure to comply with the terms of use may lead to the withdrawal of this Ruling.

What this Product Ruling is about

1. This Ruling sets out the Commissioner's opinion on the way in which the 'tax law(s)' identified below apply to the defined class of persons, who take part in the arrangement to which this Ruling relates. In this Ruling this arrangement is sometimes referred to as the Australian Eucalypt Project 1999, or just simply as 'the Project', or the 'product'.

Tax laws

2. The tax laws dealt with in this Ruling are:

•

Division 35 of the Income Tax Assessment Act 1997 ('ITAA 1997').

Goods and Services Tax

3. In this Ruling, all fees and expenditure referred to include the Goods and Services Tax (GST) where applicable. In order for an entity (referred to in this Ruling as a Grower) to be entitled to claim input tax credits for the GST included in its expenditure, it must be registered or required to be registered for GST and hold a valid tax invoice.

Business Tax Reform

4. The Government is currently evaluating further changes to the tax system in response to the Ralph Review of Business Taxation and continuing business tax reform is expected to be implemented over a number of years. Although this Ruling deals with the laws enacted at the time it was issued, future tax changes may affect the operation of those laws and, in particular, the tax deductions that are allowable. Where tax laws change, those changes will take precedence over the application of this Ruling, and to that extent, this Ruling will be superseded.

5. Taxpayers who are considering investing in the Project are advised to confirm with their taxation adviser that changes in the law have not affected this Product Ruling since it was issued.

Note to promoters and advisers

6. Product Rulings were introduced for the purpose of providing certainty about tax consequences for investors in projects such as this. In keeping with that intention the Tax Office suggests that promoters and advisers ensure that potential investors are fully informed of any changes in tax laws that take place after the Ruling is issued. Such action should minimise suggestions that potential investors have been negligently or otherwise misled.

Class of persons

7. The class of persons to whom this Ruling applies is those who enter into the arrangement described below between 17 February 1999 and the date this Ruling is withdrawn. They will have a purpose of staying in the arrangement until it is completed (i.e., being a party to the relevant agreements until their term expires) and deriving assessable income from this involvement as set out in the description of the arrangement. In this Ruling these persons are referred to as 'Growers'.

8. The class of persons to whom this Ruling applies does not include persons who intend to terminate their involvement in the arrangement prior to its completion, or who otherwise do not intend to derive assessable income from it.

Qualifications

9. The Commissioner rules on the precise arrangement identified in the Ruling. If the arrangements described in the Ruling are materially different from the arrangements that are actually carried out:

•

the Ruling has no binding effect on the Commissioner, as the arrangements entered into are not the arrangements ruled upon; and

•

the Ruling will be withdrawn or modified.

10. A Product Ruling may only be reproduced in its entirety. Extracts may not be reproduced. As each Product Ruling is copyright, apart from any use as permitted under the Copyright Act 1968, no part may be reproduced by any process without prior written permission from the Commonwealth. Requests and inquiries concerning reproduction and rights should be addressed to the Manager, Legislative Services, AusInfo, GPO Box 1920, Canberra ACT 2601.

Date of effect

11. This Ruling applies from 17 February 1999. However, the Ruling does not apply to taxpayers to the extent that it conflicts with the terms of settlement of a dispute agreed to before the date of issue of the Ruling (see paragraphs 21 and 22 of Taxation Ruling TR 92/20).

12. If a taxpayer has a more favourable private ruling (which is legally binding), the taxpayer can rely on the private ruling if the income year to which the private ruling relates has ended, or has commenced but not yet ended. However, if the arrangement covered by the private ruling has not begun to be carried out, and the income year to which it relates has not yet commenced, this Ruling applies to the taxpayer to the extent of the inconsistency only (see Taxation Determination TD 93/34).

Withdrawal

13. This Product Ruling is withdrawn and ceases to have effect after 30 June 2002. The Ruling continues to apply, in respect of the tax law(s) ruled upon, to all persons within the specified class who enter into the specified arrangement during the term of the Ruling. Thus, the Ruling continues to apply to those persons, even following its withdrawal, who entered into the specified arrangement prior to withdrawal of the Ruling. This is subject to there being no change in the arrangement or in the persons' involvement in the arrangement.

Arrangement

14. The arrangement that is the subject of this Ruling is described below. This description incorporates the following documents:

•

Draft Prospectus prepared for Australian Eucalypts Limited dated 29 December 1998;

•

Draft Lease and Management Agreement between Australian Eucalypts Limited ('AEL'), WA Forest Properties Pty Ltd ('WAFP') and the Grower;

•

Draft Australian Eucalypt Project Constitution dated 22 December 1998;

•

Loan Deed between APT Finance Pty Ltd and the Borrower;

•

Loan Agreement between National Australia Bank Ltd ('NABL'), and the Borrower;

•

Bill Facility offer by NABL for the Project; and

•

Letter from Davey Financial Management dated 23 December 1998.

Note : certain information received from Davey Financial Management has been provided on a commercial - in - confidence basis and will not be disclosed or released under Freedom of Information legislation .

15. The documents highlighted are those that Growers enter into. For the purposes of describing the arrangement to which this Ruling applies, there are no other agreements, whether formal or informal, and whether or not legally enforceable, which a Grower, or any associate of a Grower, will be a party to, which are a part of the arrangement. The effect of these agreements is summarised as follows.

Overview

16. In the draft Prospectus dated 29 December 1998 applications are invited from people wishing to enter into the Lease and Management Agreement as part of The Australian Eucalypt Project 1999. The Applicant appoints AEL to be their Attorney for the purpose of entering into and executing the Lease and Management Agreement.

17. This arrangement is called the Australian Eucalypt Project 1999. Growers entering into the project will sublease land from WAFP in either Western Australia or South Australia, this land having been leased by WAFP with the head lease registered on the title to that land (page 10 of the draft Prospectus). Alternatively, the Grower will lease land in Victoria from APTL for the purpose of afforestation activities. The leased areas of land are to be known as 'Timberlots'.

18. The Growers will enter into a Lease and Management Agreement with AEL to have Tasmanian Blue Gum (eucalyptus globulus) seedlings planted on their leased land for the purpose of eventual felling and sale in approximately eleven years. The Grower has the option of electing to collect their own felled forest produce instead of having the Responsible Entity sell it on their behalf (cl 18 of the Lease and Management Agreement).

19. The Underwriters, Davey Financial Management (Investments) Limited and Financial Solutions Australasia Pty Limited, have each agreed to underwrite $1,000,000 (totalling $2,000,000) of Shares and Lease and Management Agreements. (Paragraph 2.19 of the draft Prospectus.) Growers are to contribute $7,750 for each Timberlot under the Lease and Management Agreement. Growers are also required to contribute $2,250 per Timberlot, by subscribing, or nominating the subscriber, for 2,500 ordinary shares. Within the first 13 months of the date of execution of the Lease and Management Agreement, the Responsible Entity will arrange for each Grower's Timberlot to be planted with sufficient Tasmanian Blue Gum seedlings as would reasonably be expected to produce 300 cubic metres of harvestable timber per hectare, 11 years after planting.

Lease and Management Agreement

20. Under the Lease and Management Agreement, Growers enter into a lease for one or more Timberlots and contract with AEL as the 'Responsible Entity', to establish and maintain the Grower's Timberlot until the Forest equals or exceeds 300m3/ha and, in any event, not later than 11 years from the Commencement Date. Growers are not entitled to assign the Lease and Management Agreement except in certain circumstances (cl 7). Growers may elect to collect their own forest produce (cl 18), or AEL, acting as agent, will process and sell the forest produce as the Grower's agent for the maximum practicable price (cl 19). Non-Electing Growers will accept the Gross Proceeds of Sale in full satisfaction and discharge of Growers' rights in relation to the forest produce (cl 20). Growers will execute a power of attorney enabling AEL to act on their behalf as required (cl 30). Certificates will be issued to Growers regarding the number and description of their leased area (cl 28 of the draft Constitution).

Fees

21. The total fees payable in respect of services to be performed over the first 13 months of the Term under the Lease and Management Agreement are $7,750 (cl 22), plus any applicable goods and services tax, or equivalent.

22. The Independent Forester states, at page 48 of the draft Prospectus, that '[T]he price of $7,750 for each lot of 1.33 hectares which is the subject of a Lease and Management Agreement is comparable with similar projects elsewhere, and is considered competitive, taking into account the experience of Australian Eucalypts Ltd, the quality of the land to be planted, and the intensity of management to be supplied on the plantations'. At page 51, he says '... that the Australian Eucalypt Project should achieve its financial objectives if the forestry regimes set out in this report are followed and good marketing arrangements are put in place'.

23. AEL will hold the Application Fund as bare trustee for the Applicants. The Application Fund will be released and applied by AEL in payment of the fees payable under the Lease and Management Agreement when AEL, as the Responsible Entity, is satisfied that certain specific criteria have been met (cl 7 of the draft Constitution).

24. AEL as the Responsible Entity, agrees to pay all the expenses of performing its duties under the Lease and Management Agreement for the period commencing after the initial thirteen months term of the Lease and Management Agreement and ceasing on the termination date. The Responsible Entity is required to establish a fund out of its own funds known as the Maintenance Fund with cash or bank-backed securities of an amount to be determined by an Independent Forester. This is to ensure sufficient funds are available, if needed, to meet on-going maintenance costs (cl 11 of the draft Constitution). Any applicable goods and services tax or equivalent may be payable by the Grower in respect of the fees payable under clause 23, at such times as the Responsible Entity requires.

Planting

25. During the first 13 month period AEL will be responsible for planting eucalyptus globulus seedlings on the Timberlot. From this period on, AEL will maintain the trees in accordance with good silvicultural practice. The services to be provided by AEL over the term of the Project are outlined in Item 10 of the Schedule to the Agreement. When the yield in the Forest equals or exceeds 300m3/ha, or no later than 11 years from the Commencement Date, AEL will arrange for harvesting and will notify an Electing Grower when and where to collect produce and what the Grower's proportional shares of the costs of felling will be (cl 17). AEL will be responsible for arranging the processing and sale of the produce of the Non-Electing Growers. AEL will provide ongoing reports to the Growers on the progress of the plantations.

26. The Responsible Entity will deduct the Costs of Felling and the Costs of Sale from the Gross Proceeds of Sale. Out of these Net Proceeds of Sale are deducted amounts of 5.5% rent payable to the Lessor and 5.775% service fee payable to the Responsible Entity. The balance of the Net Proceeds of Sale will be held in the Proceeds Fund on trust for the Growers (cl 21, Lease and Management Agreement).

Finance

27. Growers can fund their investment in the Project themselves, borrow from APT Finance Pty Ltd (a lender associated with the Responsible Entity) or borrow from an independent lender.

28. This Ruling does not apply if a Grower enters into a finance agreement that includes or has any of the following features:

•

there are split loan features of a type referred to in Taxation Ruling TR 98/22;

•

there are indemnity arrangements or other collateral agreements in relation to the loan designed to limit the borrower's risk;

•

'additional benefits' are or will be granted to the borrowers for the purpose of section 82KL or the funding arrangements transform the Project into a 'scheme' to which Part IVA may apply;

•

the loan or rate of interest is non-arm's length;

•

repayments of the principal and payments of interest are linked to the derivation of income from the Project;

•

the funds borrowed, or any part of them, will not be available for the conduct of the Project but will be transferred (by any mechanism, directly or indirectly) back to the lender, or any associate of the lender;

•

lenders do not have the capacity under the loan agreement, or a genuine intention, to take legal action against defaulting borrowers; or

•

entities associated with the Project other than APT Pty Ltd, are involved or become involved, in the provision of finance to Growers for the Project.

29. AEL is offering two finance arrangements:

APT Finance Pty Ltd makes funds available on a full recourse basis to the Growers to finance up to 100% of their Lease and Management fees, and up to 100% of the subscription price for the shares. This finance is at a fixed interest rate of 11.25% for 5 years, with the loan repaid in full by way of equal monthly instalments. This financing is enabled through NABL providing a finance facility to APT Finance Pty Ltd with the funds being on lent to the Growers.

A full recourse finance facility is made directly available by NABL to the Grower on completely commercial terms, with repayments not linked to, or conditional on, the derivation of income from the Project.

30. Under both options AEL is to be put in funds by the financier upon acceptance of the Grower into the Project.

Ruling

Division 35 - Deferral of losses from non-commercial business activities

Section 35-55 - Commissioner's discretion

31. For a Grower who is an individual and who entered the Project on or after 17 February 1999 the rule in section 35-10 may apply to the business activity comprised by their involvement in this Project. Under paragraph 35-55(1)(b) the Commissioner has decided for the income years ended 30 June 2001 to 30 June 2009 that the rule in section 35-10 does not apply to this business activity provided that the Project has been, and continues to be carried on in a manner that is not materially different to the arrangement described in this Ruling.

32. This exercise of the discretion in subsection 35-55(1) will not be required where, for any year in question:

•

a Grower's business activity satisfies one of the objective tests in sections 35-30, 35-35, 35-40 or 35-45; or

•

the 'Exception' in subsection 35-10(4) applies (see paragraph 38 in the Explanations part of this Ruling, below).

33. Where, either the Grower's business activity satisfies one of the objective tests, the discretion in subsection 35-55(1) is exercised, or the Exception in subsection 35-10(4) applies, section 35-10 will not apply. This means that a Grower will not be required to defer any excess of deductions attributable to their business activity in excess of any assessable income from that activity, i.e., any 'loss' from that activity, to a later year. Instead, this 'loss' can be offset against other assessable income for the year in which it arises.

34. Growers are reminded of the important statement made on Page 1 of this Product Ruling. Therefore, Growers should not see the Commissioner's decision to exercise the discretion in paragraph 35-55(1)(b) as an indication that the Tax Office sanctions or guarantees the Project or the product to be a commercially viable investment. An assessment of the Project or the product from this perspective has not been made.

Explanations

Division 35 - Deferral of losses from non-commercial business activities

35. Under the rule in subsection 35-10(2) a deduction for a loss incurred by an individual (including an individual in a general law partnership) from certain business activities will not be allowable in an income year unless:

•

the 'Exception' in subsection 35-10(4) applies;

•

one of four objective tests in sections 35-30, 35-35, 35-40 or 35-45 is met; or

•

if one of the objective tests is not satisfied, the Commissioner exercises the discretion in section 35-55.

36. Generally, a loss in this context is, for the income year in question, the excess of an individual taxpayer's allowable deductions attributable to the business activity over that taxpayer's assessable income from the business activity.

37. Under the loss deferral rule in subsection 35-10(2) the relevant loss is not able to be taken into account in the calculation of taxable income in the year that loss arose. Instead, in a later year it may be offset against any income from the same or similar business activity, or, if one of the objective tests is passed, or the Commissioner's discretion exercised, against other income.

38. For the purposes of applying the objective tests, subsection 35-10(3) allows taxpayers to group business activities 'of a similar kind'. Under subsection 35-10(4), there is an 'Exception' to the general rule in subsection 35-10(2) where the loss is from a primary production business and the individual taxpayer has other assessable income for the income year from sources not related to that activity, of less than $40,000 (excluding any net capital gain). As both subsections relate to the individual circumstances of Growers who participate in the Project they are beyond the scope of this Product Ruling and are not considered further.

39. In broad terms, the objective tests require:

(a)

at least $20,000 of assessable income in that year from the business activity (section 35-30);

(b)

the business activity results in a taxation profit in 3 of the past 5 income years (including the current year) (section 35-35);

(c)

at least $500,000 of real property is used on a continuing basis in carrying on the business activity in that year (section 35-40); or

(d)

at least $100,000 of certain other assets is used on a continuing basis in carrying on the business activity in that year (section 35-45).

40. A Grower who was accepted into, and who has participated in the Project since 17 February 1999 is carrying on a business activity that is subject to these provisions. Information provided with the application for this Product Ruling and additional information provided since, indicates that a Grower who acquires the minimum investment of one interest in the Project is unlikely to pass one of the objective tests or produce a taxation profit until the income year ended 30 June 2010. Growers who acquired more than one interest in the Project may however, pass one of the tests in an earlier income year.

41. Therefore, prior to this time, unless the Commissioner exercises an arm of the discretion under paragraphs 35-55(1)(a) or (b), the rule in subsection 35-10(2) will apply to defer to a future income year any loss that arises from the Grower's participation in the Project.

42. The first arm of the discretion in paragraph 35-55(1)(a) relates to 'special circumstances' applicable to the business activity, and has no relevance for the purposes of this Product Ruling. However, for an individual Grower who acquired an interest(s) in the Project on or after 17 February 1999 and prior to any withdrawal of this Product Ruling, the Commissioner has decided that it would be unreasonable not to exercise the second arm of the discretion in paragraph 35-55(1)(b) for the years ended 30 June 1999 to 30 June 2009.

43. The discretion in paragraph 35-55(1)(b) may be exercised by the Commissioner where:

(i)

the business activity has started to be carried on; and

(ii)

there is an objective expectation that the business activity of an individual taxpayer will either pass one of the objective tests or produce a taxation profit within a period that is commercially viable for the industry concerned.

44. Information provided by the applicant states that the business activity comprised by a Grower's involvement in this Project has started to be carried on, and will continue to be carried on in a manner that is not materially different to that described in the Arrangement in this Product Ruling.

45. In deciding to exercise the discretion in paragraph 35-55(1)(b) the Commissioner has relied upon:

•

the report of the independent forester;

•

independent, objective, and generally available information relating to the afforestation industry which substantially supports cash flow projections and other claims, including prices and costs, in the Product Ruling application submitted by the Responsible Entity.

Detailed contents list

46. Below is a detailed contents list for this Product Ruling:

Commissioner of Taxation
13 June 2001

References

ATO references:
NO 98/9613-9

Related Rulings/Determinations:

TR 92/1
TR 92/20
TR 97/11
TR 97/16
TR 98/22
TD 93/34
PR 1999/95

Subject References:
carrying on a business
commencement of business
afforestation
management fee expenses
producing assessable income
product rulings
public rulings
schemes and shams
taxation administration
tax avoidance
tax benefits under tax avoidance schemes
tax shelters
tax shelters project

Legislative References:
ITAA 1997 Div 35
ITAA 1997 35-10
ITAA 1997 35-10(2)
ITAA 1997 35-10(3)
ITAA 1997 35-10(4)
ITAA 1997 35-30
ITAA 1997 35-35
ITAA 1997 35-40
ITAA 1997 35-45
ITAA 1997 35-55
ITAA 1997 35-55(1)
ITAA 1997 35-55(1)(a)
ITAA 1997 35-55(1)(b)