CHAIR —I welcome the representatives of the National Credit Union Association Inc. I presume, Mr Elliott, that you are leading on behalf of the organisation?

Mr Elliott —Yes, that's right.

CHAIR —As you have no doubt been informed, we would invite you to make a short opening statement addressing your submission, and then be available for questions from the committee.

Mr Elliott —Thank you very much for this opportunity to address the committee. We certainly do appreciate it, and appreciate the fact that such a committee has been formed to review the matter of the goods and services tax. From our perspective, a primary concern is that the application of the GST is uniform across all financial institutions, and the credit unions and the members do not incur disproportionately higher GST costs.

Today our purpose is to explain and highlight the inequities which would apply to credit unions if the GST bills were passed in their present form. These inequities arise largely because the legislation fails to recognise the different structure of the credit union system which has been developed over the past three decades in Australia, and that has been due to the small size of individual credit unions. Additionally, the definition of `financial supply' has consequences for all financial institutions because, as presently defined, it would result in a less efficient financial system, and would particularly disadvantage smaller financial institutions, which, from our perspective, of course includes credit unions.

In order to appreciate the significance of the concerns we have about the application of the GST to credit unions, it is important that the government understands how credit unions are structured in Australia and how that structure differs significantly from the banks. The Australian credit union system contains 247 individual credit unions. They have total assets of approximately $19 billion, and they have 3.5 million members. Credit unions are small financial institutions averaging only some $62 million in total assets. Reference to appendix 1 to our submission details those statistics. That is in comparison to the average size of a bank in Australia—some $34,323 million in total assets. That is more than 550 times the size of the average credit union. The largest credit union is approaching $850 million in Australia, while the largest bank is some $210,000 million in total assets. So the size scale is significant in this issue.

Major banks, therefore, have the internal resources necessary to provide a very diverse range of services through their branches and to their customers, such as training, data

processing, marketing, cheque clearing, ATM networks, POS facilities, home banking, and electronic funds transfer. It is virtually impossible for most credit unions acting alone to provide similar services to their members on a competitive basis. In many cases, due to their size credit unions acting alone would not be able to provide most of these types of services. This size differential creates the requirement for credit unions to act collectively in so many areas of their operations.

As a result of that, credit unions have historically banded together to undertake many of their transactional and processing services, and formed cooperative credit union service organisations that we refer to as CUSOs, and I will use that phrase from here on. These CUSOs, which are owned by a group of credit unions, enable them to act collectively to achieve the economic scale required to in fact deliver many of these retail services that are so essential to consumers today. Without the CUSOs the service capacity and competitiveness of credit unions would be enormously impaired. We would like to suggest that a direct comparison can be made between the structure of a large financial institution, such as a major bank with all of its branches, and the credit union system structure that has been described in our submission. Services provided within one corporate body by the head office to the branches of a large financial institution are identical to those shared among many credit unions as separate corporate entities in the credit union system. The diagram at page 3 of our submission illustrates those similarities between the two structures and the basis under which GST would be considerably higher proportionately for credit unions than for the banks.

In essence, there is no difference between the many services transacted by CUSOs with credit unions and bank head offices with their branches. However, under the proposed GST legislation the provision of services within the credit union system would be subject to GST while the same services within a bank structure would not be. That is simply because the credit unions are separate legal entities, not branches.

On page 4 of our submission we detail the theoretical GST comparison costs for computer facilities if a bank and a credit union were to spend $5 million on hardware and $5 million on software. It shows a once-off GST cost of $500,000 for a bank, but for the credit unions it would be a first-year cost of $1.2 million and then an annual ongoing cost of $200,000, simply because GST is being applied at multiple stages.

This structural problem in relation to a GST was encountered by our credit union colleagues in Canada almost 10 years ago. But that inequity problem was resolved through the Canadian government's recognition of the special credit union structure and, very briefly—we would not want to attempt to address it at this point here—the GST grouping was the methodology under which they achieved that. We appended to our submission the publication by the Revenue Canada Customs and Excise regarding GST and its application to credit unions. I would like to make one quote from that paper. It states:

Generally, the GST applies to all taxable supplies between two legal entities including those involving related members.

It goes on to say:

The organizational structure of the credit unions would, in the absence of special rules, result in the application of GST to the charges for training seminars provided by a central credit union to a local credit union, because the central and the local are two separate entities. Where the recipient of a taxable supply is engaged in exempt activities, such as a credit union, this may result in non-recoverable tax since input tax credits would not normally be available for tax paid by the recipient.

To summarise, the position that they adopted in Canada in recognition of this problem was:

If credit unions A, B and C own 100 per cent of X Ltd, X Ltd is considered to be closely related to each of A, B and C. X Ltd is also considered closely related to all other credit unions in Canada. As a result, X Ltd may elect with credit unions A, B and C and all other credit unions in Canada, pursuant to subsection 150(1), to have all taxable supplies between them exempt. A separate election would have to be filed jointly between X and each credit union.

We submit that as a precedent in relation to this difficulty, and also the solution path in that regard. That is the first arm of our concerns.

The second concern is with the actual definition of `financial supply'. At section 40(5) it includes `the creation, keeping or closing of savings, deposit and cheque accounts and loan transactions' and they are to be exempt from the GST. However, a savings, deposit or cheque account is not an inert item and is, by its very nature, a series of debit and credit transactions. We argue that the processing and recording of such transactions constitutes the keeping of the account. It would be hard to keep an account without recording all of those activities. In this day and age, there are enormous bases for generating transactions from ATMs through to remote point of sale transactions as well as over the counter, as you would be aware.

So we are proposing that to exempt the keeping of a cheque account from GST, whilst subjecting the institution to GST on fees it incurs as a result of the account holder's transactions on the account, is unfair and not quite logical. To be consistent, direct charges incurred by the financial institution for transactions, which we submit are the very essence of keeping the account, should also be exempt. To draw on a very detailed example, where a member of a credit union uses a bank owned ATM to withdraw money from a savings account, the credit union will be charged the fee by the owner of the ATM and GST would be payable, for example 10c on a $1 withdrawal fee.

Because a withdrawal fee charged to another financial institution is not considered a financial supply, if the credit union then charged the member the same fee of $1 for the transaction, it is understood it would be deemed to be a financial supply and therefore GST could not be applied to it, so the credit union would be wearing the GST with no way of recovery. This same scenario is replicated in all instances where a financial institution incurs a fee for a customer initiated transaction, whether it be cheques, EFTPOS, direct entry, ATM and so on.

And then we get a broader issue that we would appreciate the committee address. It is that the technology infrastructure exists in Australia to allow consumers to choose their financial institution, irrespective of its size, and have access to almost any electronic transaction facility in the country. To introduce GST on these networks effectively creates a disincentive for their use. It inhibits the efficiency of the financial system as a whole, and it will inconvenience consumers and disadvantage small financial institutions in particular.

Further, substantial benefits would accrue to the owners, usually the larger institutions, of such transaction facilities as they would be exempt from GST when their customers transact, and they are also able to claim input credits when charging other institutions. For example, the Commonwealth Bank has an extensive ATM network and its customers can access some 2,500 ATMs and 83,000 EFTPOS terminals. All such transactions would be GST exempt when transacted by a Commonwealth Bank customer but GST would be payable when a credit union member transacted on one of those devices. To further illustrate the significance of the structure in Australia, banks own 7,828 of the 8,698 ATMs in Australia while credit unions own 348 ATMs, so it is a scale issue.

If smaller financial institutions are penalised by the application of GST from having access to this network, their ability to provide competitive financial services would be significantly impaired. Again, our credit union colleagues in Canada faced this very same problem at this stage of the GST development in Canada. While the Canadian definition of financial services for GST-exempt status reads very similarly to ours in relation to savings, chequeing, deposit and loan accounts, et cetera, it was expanded to include charges for transactions on accounts and specifically for ATM transactions.

Credit unions are assisting many people in the community and they are moving into remote areas not serviced or that have been vacated by the banks—and there has been a lot of publicity about that in the last few years. It is the very structure of credit unions, which is very different to the banks, that facilitates this. Credit unions are driven by the local membership and the board of directors that is derived from that membership, as opposed to the bank structure which you are all familiar with. Surveys of consumer satisfaction with a financial institution in recent years have recorded very high satisfaction levels with credit unions and poor to low levels with banks. Again, it is because of the very structural difference in the corporate nature of credit unions that is producing these sorts of results compared to the banks. But it is also the reason why we have this problem with the GST. We are different and we are not in the corporate mould that the GST was obviously designed around.

We would submit it would be very unfortunate if these same credit unions were significantly disadvantaged compared to the major banks by a government taxation policy which was not flexible enough to treat credit unions equitably. All we are asking for is to be essentially treated under the GST in the same nature as a bank. In essence, if you took the Commonwealth Bank and looked at its head office, subsidiaries and all the branches and then did a similar pick with credit unions and had the service organisations that they have developed, and then all the credit unions listed under that, on such a grid system it looks very much the same as a bank. But the tragedy under the GST proposals is that every time a credit union transacts somewhere, because it is a separate legal entity, it will be incurring GST and therefore be significantly impacted upon as a result.

I would like to pass now to my colleague Derek Weatherley to address three other areas in relation to the GST, and that will be the conclusion of our presentation to you.

CHAIR —Thank you, Mr Elliott.

Mr Weatherley —Briefly I would like to highlight a couple of important points in relation to inequities which arise between large and small financial institutions due to the input credit system. Firstly, the availability of input credits and the computation of input credits may be a factor which distorts competitive balances between large institutions and small institutions. We know that all financial institutions will be required to allocate purchases of inputs into those which are used to provide taxable services, zero-rated services and input-taxed services. The GST paid on inputs which are used to provide taxable and zero-rated services will be refundable as an input credit. The GST paid on inputs which are used to provide input-taxed services will not be refundable and will be borne by the financial institution.

The inequity arises because most credit unions will have no taxable revenues and, as a result, input tax credits will be virtually non-existent for credit unions. Banks, on the other hand, will have more substantial taxable revenues and therefore will have the opportunity to claim significant input credits. We can fairly assume that in calculating their input credits banks will do all they can to allocate a maximum amount of expenditure to taxable activities, thus minimising their GST burden. All we ask is that this be recognised and that the legislation be tight enough to prevent undue input credits from being claimed by banks. If this is not done, smaller financial institutions may be disadvantaged.

My second point is in relation to services provided by banks to credit unions. Under the legislation as it stands, a credit union must pay GST on many of the services provided to it by a bank but will not be able to claim the input credit for the GST paid on that service. The bank, on the other hand, will be entitled to claim input credits for all GST paid on inputs involved in providing these services to a credit union. This inequity further tips the scales in favour of large financial institutions. This would be resolved by expanding the definition of `financial services', as was earlier mentioned by Philip.

The next point is just a brief one in relation to the Wallis inquiry. The Wallis inquiry sought to achieve a number of objectives. Among these was to introduce greater competitive neutrality across the financial system and establish more contestable, efficient and fair financial markets, resulting in reduced costs to consumers. The Wallis report also noted that a more competitive and efficient financial system can be promoted by regulatory and taxation arrangements designed with greater regard to their effect on competition and administrative efficiency. For the reasons which we have outlined today, it is fair to say that the GST bill in its current form runs counter to these important goals as far as credit unions and most small financial institutions are concerned.

The final point I would like to make is on outsourcing. The Wallis report says that outsourcing has the potential to lower industry costs and remove an existing barrier to entry for new competitors. A major impact of the GST bill in its present form is to penalise outsourcing by subjecting it fully to GST. This imposes a major disincentive to financial institutions to outsource and prevents financial institutions from providing the most cost-efficient services to consumers. Our main concern here is that it imposes a more substantial disadvantage on smaller institutions because many of them must outsource to enable them to compete effectively in today's markets.

In conclusion, I would like to summarise the changes that we believe are required to restore equity to the legislation, and these were mentioned earlier by Philip. I will just quickly go over them again. Firstly, we would ask for a recognition of the credit union system. The legislation should provide that the supply of goods and services between credit unions and their jointly owned service providers are not subject to GST. This would recognise that such transactions are identical to the provision of goods and services by the head office of a large financial institution to its branch network. As Philip mentioned, this recognition was granted by the Canadian government when it introduced a GST in 1991 and supplies between credit unions and their various service organisations were effectively exempted from GST.

Finally, we would ask for an expanded definition of `financial supplies'. The current definition of `financial supplies' includes `the creation, keeping or closing of a savings account, cheque account or deposit account'. The legislation is not precise on the scope of this definition and is open to interpretation, as the definition does not include transactions which by their very nature constitute the keeping of these accounts. The Canadian government also recognised these transaction activities as financial supplies and accordingly included them in their definition of `financial supplies'. We ask that a similar recognition be given in our legislation.

CHAIR —Thank you. I wonder if you can answer this question. You have mentioned where you want the current bills that are before us to be changed. If they are not changed, do you want us to support the legislation in its current form or to reject it?

Mr Elliott —That is a very broad issue, because you are basically addressing the question of the whole issue of a GST. Because of the significant disadvantage that credit unions would suffer, I think we would have no alternative but to ask for the GST bills to be defeated. We are not proposing that you would see the adjustment as a much more reasonable course, but the impact is significant. It is following on the heels of the removal of a taxation exemption that the credit unions had, which was also supposed to be on the basis of introducing a level playing field. Unfortunately, again because of the different structure of credit unions which really was not recognised by government in our opinion, credit unions are disadvantaged because the level of post-tax profit, which is their only method of capitalisation, is only two-thirds of what it used to be and the tragedy for credit unions is that they are unable to utilise franking credits because they are prohibited from issuing permanent shares.

We have got a similar problem with the GST proposal as we have with the existing income tax, whereby government thought it was producing a level playing field but it did not look close enough to say, `Oh, credit unions are mutuals. They don't have permanent shares on which dividends can be paid which are fully franked,' or at least partially franked. So the credit unions have got franking credits now locked up in them. Their capital raising ability in the previous period where they were tax exempt was a third again of what it is, so it almost appears as though the danger sits of a lack of recognition that there is something different about credit unions and that something needs to be adjusted.

CHAIR —You mentioned the notorious problem of banks leaving town in rural Australia and leaving country townships without a bank or a financial institution of any sort—or at least a long way from one—and the credit unions are beginning to fill that gap.

Mr Elliott —Yes.

CHAIR —You may wish to take this on notice. Do you have any figures about that trend? To what extent are credit unions beginning to fill the gap?

Mr Elliott —The last figures I saw, which are probably a good six months old, indicated about 43 different areas, principally in the three eastern states, where credit unions had moved in to provide some branching facility for local communities. It is not always the case where a bank has moved. There have also been a small number of cases—seven or eight—where there was no local facility at all and the local community raised the issue and drew it to the attention of credit unions and they have moved in there.

In terms of the total number of credit unions—240-odd in Australia—for them to have gone to 43 or 44 different sites in the last four years or so and created a facility for financial services that did not exist previously or that had been removed, we consider a remarkable achievement. Given the overall small size of credit unions and, as I said, their small number, we think that is quite remarkable. The impact of the GST, as proposed, could only have a very serious impact on their ability to continue to do that sort of thing in the future, let alone their current operations.

Senator FERGUSON —If I heard you right, Mr Elliott, you said that if your recommendations were not accepted, you would feel inclined to ask senators to oppose the GST bills. Does that mean that you also want senators to oppose the income tax cuts? Do you want the senators to oppose the reduction in fuel excise? Do you want the senators to oppose the removal of all of the other taxes that are currently in the package; in other words, you want the whole package rejected?

Mr Elliott —In the way the question was phrased, I guess it gives us little opportunity to respond in any other way than that, simply because the negative impact of the GST on credit unions compared to the larger financial institutions would be so substantial as to cause serious problems.

Senator FERGUSON —In general terms are you in favour of the tax reform package or against it? We are not talking about a GST. This is an inquiry into a new tax system; it is not an inquiry into a GST.

Mr Elliott —No, we are not opposing it at all. To some extent, we are fairly neutral on that issue. We will let individual members of credit unions decide how they would react to that. Largely, we are neutral on it. The government has proposed it; the bills have been presented. We are not proposing any action to oppose the bills per se. Our position is fairly narrowly in relation to the direct and immediate effect on credit unions, so our preferred path—the only path that we have contemplated in relation to our reaction to the GST—is to seek these areas of change.

Senator FERGUSON —It is a fact though, isn't it, Mr Elliott, that currently the application of GST to financial services is still a matter of ongoing consultation with Treasury, and they are meeting with industry representatives now?

Mr Elliott —Yes, and this is one of the many forums that credit unions are using to get their viewpoint across and, hopefully, have it accepted.

Senator FERGUSON —So there are still ongoing consultations?

Mr Elliott —Yes.

Senator FERGUSON —It is not something that is cut and dried.

Mr Elliott —No.

Senator FERGUSON —In fact, I think it is probably fair to say that this government has been rather helpful to the credit union sector recently, with the issuing of cheques, direct access to payment systems and those sorts of things. They have all been introduced. So you could hardly say they have been unsympathetic to credit unions.

Mr Elliott —We are certainly not saying that. The only other reference I made was in relation to the removal of the tax exemption, which has had an adverse side effect and which we can only explain on the basis that that difficulty was not anticipated because the structure of credit unions was not fully appreciated.

Senator FERGUSON —If the recommendations that you are asking us to put in place come to be, is it possible that will increase the cost of financial transactions to your consumers?

Mr Elliott —If these proposed amendments or our requests are adopted?

Senator FERGUSON —Yes.

Mr Elliott —With the removal of FID and BAD it probably means that the cost to the credit union members could reduce.

Senator FERGUSON —You also spoke, I think, in your submission about banks leaving rural areas.

Mr Elliott —Yes.

Senator FERGUSON —When did banks start leaving rural areas?

Mr Elliott —I am no authority on that, but I suppose it could be as far back as 15 years ago that branches were being closed. It is obviously in the last five to seven years that the volume of branch closures has accelerated under the banks.

Senator FERGUSON —Fifteen years ago. This is not a dorothy dixer, but that just about coincides with the advent of the Labor government in 1983, and if that was when they started leaving rural areas in droves, what action was taken during that period to try and retain banks in rural areas?

Mr Elliott —Are you talking about by local communities?

Senator FERGUSON —Yes.

Mr Elliott —I really have no technical knowledge on that.

Senator FERGUSON —Or by governments, previous governments particularly.

Mr Elliott —As I say, I have no expert knowledge on it. My observation would be that very little was done. It was, I guess, like train tracks being pulled up in certain areas; people accepted that was the way it was and went on about their lives. But attitudes today are a bit different. Fred Wilson would like to comment on that.

Mr Wilson —I think it is important to understand the differences between the banks and the credit union industry per se. Fifteen years ago the banks were going through an economic decision making process where, for pure business purposes, they decided that it was uneconomical to keep remote branches open. Credit unions, however, operate on a completely different philosophical basis. Our credit unions operate on the basis that we exist purely to service our members. We are not driven by the profit motive, which you will find that most of the major banks are. Therefore, the issue of providing service is uppermost in our minds, as opposed to making profits, and I think you will find that most of the bank closures have been profit driven.

Senator BARTLETT —You mentioned that you are having ongoing discussions with Treasury about this. I suppose it is a bit hard to give a precise answer, but what is your general perception of that? Are you reasonably encouraged by the reception you have been getting?

Mr Elliott —Yes, the reception is probably comforting but a long way short of a commitment to redress these issues.

Senator BARTLETT —And to actually address the main concern you have got would require an amendment to the legislation that we are examining?

Mr Elliott —Yes.

Senator BARTLETT —So it is not something that could be done by a bureaucratic ruling down the track or whatever?

Mr Elliott —No, it is fundamental to the application and definition of `exempt suppliers'.

Senator BARTLETT —Okay. You have mentioned a number of times the Canadian government approach and addressed it in your submission as well. You are saying that the specific approach that Canada uses would completely address the concerns you have?

Mr Elliott —Yes. We were absolutely amazed when we communicated with our Canadian colleagues knowing that they had had a GST for almost 10 years to find that the same two major problems that we had identified had occurred with them, and that they were addressed fairly easily in terms of definition in relation to the Canadian legislation.

Senator BARTLETT —You may need to take this question on notice. You have mentioned the current definition of `financial supplies' that is in the bill. Would you be able to provide us with specific wording that you believe we should put in place. It is one thing for us to recommend an in principle change, but we do need to have a specific change.

Mr Elliott —We would be only too happy to assist in that regard.

Senator BARTLETT —That would certainly be handy, from my point of view.

Senator HARRADINE —We got that in Adelaide, I think.

ACTING CHAIR (Senator Ferguson) —I think we may have got some of that information but I am not sure that we got all of it, Senator Harradine. But perhaps we could just check the record and make sure whether that request was made before. Senator Bartlett was not there.

Senator CONROY —If the parliament does not adopt your suggestions, how serious an impact is it going to be in terms of the viability of the individual credit unions?

Mr Elliott —Credit unions have always demonstrated a remarkable resilience, but I will try to put this into perspective. As you would be well aware, the capital adequacy requirements for financial institutions are fairly significant and, in crude terms, to move away from the risk weighted eight per cent, given the balance sheet of the average credit union, the credit union has got to have $5 in capital for every $100 it takes in on deposit over the counter and then lays off in loans to members or what have you. That is the simplest way I can put it.

Credit unions can only do that with post-tax profit at the moment. Going back, four years ago they could make a profit and the whole lot could be put to form their capital. Now, for every $5 we used to get there we are only getting about $3. That means that the ability to grow is impaired, so we are still grappling with that problem. As a result of the taxing of credit unions, credit unions are very seriously looking at the notion of issuing permanent shares. They are not allowed to under the law at the moment, but that is being looked at at the moment as well.

With that severe limitation on growth and profitability, the aggregate level of profit of all Australian credit unions last year—and they are the most highly capitalised financial institutions in the country, far better than banks, at about 14[half ] per cent risk weighted—an approximate $40 million GST, which is the estimated load credit unions would carry because

there is very little input credit available to them, would consume something towards 30 per cent of the total annual profits of credit unions in Australia. So in terms of the significance of the impact I think that is a fairly substantial illustration of it.

Senator CONROY —Does that start moving down towards your problems with your capital adequacy?

Mr Elliott —Yes. What it means is that if that much higher level of cost is to be borne by credit unions, the level of profit left over is going to be less. Therefore, the amount they can appropriate to capital will be less, which means they will not be able to grow as much. There is a limiting cap on growth by the level of capital that you have. So in terms of federal revenue, if the issues we are talking about do add up to $40 million it means nothing in overall terms, but in the bottom line impact on credit unions they have enormous ramifications. I certainly would not say life threatening. But one of the other options would be to just pass that sort of cost on to the members, but then you move into the dangerous area of not being cost-competitive, and it would be as a result of credit unions paying so much GST on the same things that banks are not paying GST on.

That really is the essence of our argument. It is the inequity: that simply because credit unions are built differently they would be wearing the GST. And we are certain that is why the Canadian government responded the way it did. It said, `We don't want you to be unfortunate because you are built more consumer friendly. We'll recognise that and say you can go this way and the banks can go that way, but there should be neutrality in terms of the application of GST.'

Senator CONROY —Are there alternative sources of revenue for you?

Mr Elliott —Not really, no. Credit unions are very narrow in the range of services provided to members. They do not have the breadth and plethora of national and international activity of the banks, for the fairly obvious reason that so many credit unions are dealing with consumers on consumer issues and they are not into the corporate side of activities. So to keep supplying the services that the members of the credit unions want, they are still very much in a narrow band of services. Financial advice is an area that is certainly creeping up in credit union activity in more recent times, but again that is because more of the members are looking for that sort of service.

Senator CONROY —If you do cop a 30 per cent hit on your profit would you have to look at introducing fees and charges?

Mr Elliott —Yes.

ACTING CHAIR —As the committee has no further questions, thank you very much for appearing before us today.

Mr Elliott —Thank you very much.

[11.43 a.m.]