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STANDING COMMITTEE ON RURAL AND REGIONAL AFFAIRS AND TRANSPORT
24/07/2008
Carbon sink forests

CHAIR —Welcome. Thank you very much for making yourselves available at such short notice in response to our changing your time to appear here. I remind senators that the Senate has resolved that an officer of a department of the Commonwealth or of a state shall not be asked to give opinions on matters of policy and shall be given reasonable opportunity to refer questions asked of them to superior officers or to a minister. This resolution prohibits only questions asking for opinions on matters of policy and does not preclude questions asking for explanations of policies or factual questions about when and how policies were adopted. Officers of the department are also reminded that any claim that it would be contrary to the public interest to answer a question must be made by a minister and should be accompanied by a statement setting out the basis for the claim. Do any of you wish to make a brief opening statement before we go to questions?

Mr Flavel —No.

Senator HEFFERNAN —There are a few things I would like to go through. I have the view that the principle of carbon sinks is great, but the science is far from complete. For a lot of people who are into financial instruments more than they are into the planet, it will be the potential for a river of gold if they go about it the right way—and that certainly does not apply to the previous witnesses. How does the taxation department overcome the problem that came up of MISs—and I know this bears no relationship at all to this principle and this legislation—where they charge several times the real cost to form the tax deduction up-front for the investor? How will you form a view on what is the real cost of plantation costs of a sink?

Mr Flavel —I think the best way to answer that is to refer to the explanatory memorandum, which lays out those components of establishment expenditure which would be considered to be eligible.

Senator HEFFERNAN —But they laid that out for MISs too. What you are dealing with is people who use the tax act to get where they want to go regardless of how you change the rules. Will you concede that, in the MIS arrangements for the plantation forestry, some of the costs—for instance, in the almond industry—were excessive and well beyond the real costs?

Mr Flavel —It is not appropriate for me to comment on MISs.

Senator HEFFERNAN —How would you assess it? Will you go out and have a look? What does the act say?

Mr Flavel —I make the point that structurally MISs are quite different from the arrangement—

Senator HEFFERNAN —Forget about MISs. I am talking about carbon sinks. How are you going to do it?

Mr Flavel —I think it is important because the concern that was raised in some quarters about MISs was essentially because of an arms-length arrangement between an investor and ultimately those who are, if you like, at the coalface, or at the tree face, undertaking the relevant plantings.

Senator HEFFERNAN —It was good for everyone.

Mr Flavel —Part of the structure of MISs, I guess, involves third parties.

Senator HEFFERNAN —Can we forget about MISs and talk about carbon sinks?

Senator O’BRIEN —Can we just get the answer, please? This interchange disrupts the nature of the answer. You have asked a question, and I would like to hear the answer and then a subsequent question, perhaps.

Mr Flavel —I think it is important because the concern in MISs was essentially raised in some quarters about the fees going to third parties—planners and those involved in the process of raising capital that was then ultimately fed through to MIS investment. This tax deduction goes directly to a business which is in the business of carbon sequestration, so it is a fundamentally different structure—

Senator HEFFERNAN —I accept all that. Can we keep the answer short. Let us say I am the business that is claiming from you as the investor, and I am going to lease a farm from Senator Nash, which is owned by Senator Joyce, so I am doing the work for you. How do you know that I am not charging you—have you ever had an insurance job done on your car?

Mr Flavel —Very many times.

Senator HEFFERNAN —If it is not an insurance job you will find it does not cost you nearly as much as it does if it is an insurance job. It is the same person making the quote. That is making the point that, under these arrangements, which are driven by the tax deduction from the investor as a primary, how do you keep a perspective on what is a reasonable cost? Something like spraying might be $15 a hectare but you might be charged $35 a hectare. How do you contain that sort of stuff?

Mr Flavel —Ultimately it goes beyond just this deduction to the normal rules that apply for any deduction.

Senator HEFFERNAN —I will tell you how you do it: you do not. You do not go out and inspect every fence that is repaired and claimed under a tax deduction—you just do not do it. That is the cost, which is going to be a problem—the real cost versus the charged cost. That is where one of the corruptions in the capital market occurred with the other mob—because they accumulated capital in management fees well above the real cost, which gave them working capital.

In this set-up, when you get a contract from Origin Energy, you come to me and I say, ‘Well, I’m going to lease a farm from Senator Nash.’ For some reason I decide to sell the farm, on which you are contracted to have a carbon sink, and Senator Joyce buys the farm 30 years later. We do not know the science of the sequestration yet. We have put the cart before the horse, because, as the CSIRO said, this is a voyage into the unknown, so I do not know how Origin Energy can reliably contract with the tax office as to how much carbon they are putting away, because no-one knows. Anyhow, Senator Joyce buys my farm on which this contract is held, and he wants to grow marijuana or cotton hoops, or God knows what, and he decides to plough the bloody trees in. He has bought my farm, and his solicitor did the conveyancing, and there was nothing registered on the title. What is his legal obligation?

Mr Flavel —I think the legal obligation is not really an issue for the tax law.

Senator HEFFERNAN —With great respect, it is an issue for the bloke from Origin Energy who has contracted me through the loop. Bear in mind that this might not be five years later. We have just heard from Greening Australia of an obligation for five years, out of a 100-year cycle. It might be 20 or 30 years later, when I am dead and gone and my grandkids, or someone else, are running the farm. If it is not registered on the title, how do you protect the covenant?

Mr Flavel —Again, it is not really an issue for the tax act; this is providing a deduction—

Senator HEFFERNAN —With great respect, you have an obligation to make sure you are not defrauded—right? It is a primary obligation of the tax act to protect the public purse. How do you protect the public purse?

Mr Flavel —I cannot see—

Senator HEFFERNAN —You cannot answer it because there is nothing in the legislation that does it.

Senator O’BRIEN —Can we get an answer? You seem to be answering your own questions—

Senator HEFFERNAN —Well, can you mob answer it?

Senator O’BRIEN —I would like to hear an answer from the witness rather than you, Senator.

Mr Flavel —In substance, this is no different from any other expenditure that might be incurred by a business—for example, a business that incurs expenditure in building a building. That building might then be rented out to various businesses. Compliance with things like safety standards and building codes is not a matter for the tax act. They are dealt with in separate legislation, but they are equally as important.

Senator HEFFERNAN —Wriggle as much as you like. Perhaps I could come to you. Do you fellows deal with this side of it?

Mr Carruthers —Not administration of the tax act.

Senator HEFFERNAN —Well, who does? Who am I supposed to be addressing these questions to?

Mr Carruthers —The Treasury portfolio.

Senator HEFFERNAN —The tax act is going to say that you can legitimately claim a tax deduction up-front to put in trees, into a carbon sink—right? And you are saying that the tax office is pleased to be able to offer the tax deduction to the investor—true?

Mr Flavel —I am not from the tax office. I cannot speak on behalf of the tax office.

Senator HEFFERNAN —Well, you are in charge of the public purse if you are Treasury. Do you, Treasury, have an obligation to protect the public purse?

Mr Flavel —Senator, I am not sure how I could answer that question.

Senator HEFFERNAN —Well, you do. I want to know, in a practical sense, from somewhere in the bloody government, how you protect the integrity of the carbon sink on freehold land without the obvious need to survey it and register it on the title. When Senator Joyce buys my farm, if it is not registered on the title—and it is the same as a gas pipeline easement or a telephone or a power line—how the hell do you protect it without an easement?

Mr Carruthers —The questions have moved on a little here, Senator, from just direct administration of a tax provision to the whole framework in which this is going to operate.

Senator HEFFERNAN —It is all the one question. Without an easement, how do you protect something on the title, if it is a freehold title, if it is not registered on the title, for God’s sake?

Mr Carruthers —We began a discussion on this in this committee a couple of weeks ago, on another subject. I mentioned at that time, for example, that each of the states has carbon rights legislation, which allows for the carbon rights to be registered as a right. Just as property rights can be registered, trees can be registered.

Senator HEFFERNAN —That is fine, but I have got a 100,000-acre farm, and I have 1,000 acres of carbon plantings on it. You are dead and I am dead, and my grandkids and your grandkids are arguing over it, and Origin Energy has been sold. Kevin McCann, the chairman, has sold it to someone else. How do you protect the 100-year life of the carbon sink if it is not a registrable instrument on a title? Tell me how you do it.

Mr Carruthers —The states’ legislation allows for registering of carbon rights, so it is—

Senator HEFFERNAN —Der, but how do you do that if you do not identify on the title where it is? You would have to survey it.

Mr Carruthers —That is a matter for the parties to the contract, just as, if somebody purchases land, it is for them to register the title, the rights.

Senator HEFFERNAN —Wouldn’t it make sense for the Commonwealth to have the bloody brains to put in the legislation the requirement to protect the integrity of the carbon sink for its life with an instrument which is registrable on the title? Otherwise, he can do what he likes. If he has got a freehold title and there is nothing registered on it, he can turn it into golliwogs or boomerangs. It is no skin off his nose.

Mr Carruthers —There are a couple of points there. First of all, the notice of application that is on the ATO website requiring certain information requires the boundaries, the datum, for the forest sink plantings to be declared as part of the tax application. So the Commonwealth, from the point of application, has the record of that, and—

Senator HEFFERNAN —Does that have to be a surveyable document? I have got 100,000 acres, and Michael Baume is going to put strips every 400 metres, 20 metres wide, across my place. How do you know what is there if you do not survey it?

Mr Carruthers —There are quite simple ways that these—

Senator HEFFERNAN —Oh, yes?

Mr Carruthers —Yes, with satellite technology and GPS, that is fairly simple stuff in the forestry industry.

Senator HEFFERNAN —All of that, and then how do you protect that at law if it is not on the title?

Mr Carruthers —It is open to the parties to the contract to use states’ carbon rights legislation to do that.

Senator HEFFERNAN —Anyhow, you have not got the answer. That is all I need.

Mr Carruthers —The Commonwealth does not administer property rights in the states; there are state lands departments to do that.

Senator HEFFERNAN —I would have thought they would have learnt from the Murray-Darling Basin that, if ever there was a job for the Commonwealth to have an oversight of, it would have been an Australia-wide policy on carbon sinks, given the vagaries of all the states. If ever there was a lesson to be learnt from the bloody railway line gauges and the rivers in the Murray-Darling Basin, this is another example of that—and you are saying it is up to the states. Golly gee for you.

Mr Carruthers —In terms of property rights.

CHAIR —Are there any other questions of the department?

Senator MILNE —I would just like to go to the guidelines. Mr Ryan, I understand that you have written the guidelines or you are the spokesperson on the guidelines. My issue follows up what has been discussed before on the issue of monitoring, compliance, enforcement and penalties. All of these guidelines—1, 2 and 3—as I read them here rely on it being accepted as their having been complied with if there is supposedly compliance with state legislation, forest practices codes, catchment management plans and so on. Do you accept, Mr Ryan, that state land clearance legislation is adequate or enforced? Forget the ‘adequate’; that is a policy question. Does every state have land clearance legislation, and is it enforced?

Mr Ryan —Every state has legislation for management of vegetation clearing. As to commenting on enforcement, I do think that is not a matter that we would comment on.

Senator MILNE —Okay. So you are putting together guidelines to cover a Commonwealth, tax-deductible practice when you have no ability to in any way monitor compliance with that at the state level, let alone a local level, let alone the catchment level or NRM plans or anything else?

Mr Ryan —The guidelines require the taxpayer to demonstrate that they have complied. But also, specifically on land clearing, the eligibility requirements for forests in the legislation also preclude forests that have been established following clearing.

Senator MILNE —Yes, I understand that. This is forests under the Kyoto protocol. We are talking about reforestation and afforestation on previously cleared land. The point I am making is that all of these things say that, for the purposes of this legislation, all they have to do is demonstrate compliance with state or local land clearance, NRM, catchment requirements and so on, by demonstrating they have got in place a strategy for fire management, a strategy for feral animal management. Whether they actually do anything with the strategy they have got is nothing to do with this, is it? They just have to have a strategy.

Mr Ryan —The guidelines apply to conditions that need to be met at the time of establishment in order to obtain the tax deduction. So that flows directly from the legislation. And all components recognise, as you have said, that there are regulatory requirements and other non-regulatory arrangements in place. So these guidelines have been structured in recognition that they do exist; they do not add to existing compliance requirements.

Senator MILNE —But it is meaningless to say they have to meet compliance requirements if they are not monitored and enforced. For example, Tasmania have no hydrological data on their river systems, their groundwater et cetera; how are they going to comply with anything if they do not have any data?

Mr Ryan —I think, similar to some of the other issues, these guidelines add extra strength to the legislation. Similar requirements do not apply to some other things. So these guidelines have been applied in recognition of what exists, to support this measure. They do not attempt to establish any new requirements, if there are cases where requirements do not exist.

Senator MILNE —So you would get a tax deduction for planting one of these forests in Tasmania if you have a feral animal management plan—including native animals, of course, which are regarded as feral by the forest industry—which allowed the use of 1080 poison on private land; is that correct?

Mr Ryan —I am not able to comment on the specifics, but if the intent here is to—

Senator HEFFERNAN —Management costs are in, aren’t they?

Mr Ryan —Management costs?

Senator HEFFERNAN —They are tax deductible.

Mr Ryan —This relates to establishment costs.

Senator HEFFERNAN —Yes. Management costs are in?

Senator MILNE —No, this is about a strategy for feral animal management—that you comply with the tax deductibility requirements if you have a strategy for dealing with feral animals, which the forest industry determined are native animals. So you can get a tax deduction and manage your plantation by poisoning everything in sight.

Mr Carruthers —Senator, perhaps I could comment here. We are speaking here about a specific provision under the tax act and a connection to a climate change objective.

Senator MILNE —That is right.

Mr Carruthers —It is actually an unusual feature to have in the tax legislation a requirement to meet environmental or natural resource management guidelines—and I hope it is seen as a very positive thing in this case. I think there is a question of how far you can take requirements in that, if the principal concern is around biodiversity outcomes or some other aspect of land management, how far can you go through a linkage between the tax act and climate change objectives in dealing with a range of other national land management objectives? If there is a problem to do with, for example, feral pest management, the first principle of public policy is to deal with that in terms of the biodiversity requirements or land management practices or whatever. It is probably not feasible and not effective to seek to add that on top of the tax act. Indeed, I am sure the lawyers would have something to say about how far you can extend reasonableness of tax application.

Senator MILNE —And that is my point entirely—that these guidelines are a waste of time because they cannot be complied with, they cannot be monitored, there is no penalty et cetera. We have a policy decision to offer 100 per cent tax deductibility for the planting of trees when the only requirement is that you have to say when you planted them that your intention at the time of planting them was that they would be a carbon sink. Apart from that, these are here to give a signal that at some point we would like to connect climate policy with biodiversity with tax, but at this point those linkages are somewhat dubious.

Mr Carruthers —Would you mind if I comment on that observation, Senator. I think there are some extra dimensions to this. In saying that it is unusual to have such a requirement in the tax act, for the tax deductibility applicant to set out to document how they have met the variety of relevant environmental and natural resource regulations and codes of practice et cetera essentially makes that a public statement. It is no longer just internal to the enterprise; it is in the public domain and it is linked to the operation of formative carbon markets. The people who are buying the carbon credits associated with those forests typically will have a keen interest in the integrity of the operation, not just the climate change integrity but the broader environmental and natural resource management integrity of the operation. So, to my mind, I would think that there is actually considerable commercial and environmental leverage to be obtained through these arrangements.

Senator MILNE —Thank you, Mr Carruthers, but that is an opinion. I do not think the coal industry is going to be wildly interested in the public use or public amenity of biodiversity, which brings me to this issue of whether we are farming carbon or trying to get integrated ecological outcomes, which I would have thought is the whole point. So why does the definition not include that these forest carbon sinks must be biodiverse? Why isn’t that the definition? It would help us in a whole range of areas if there were an understanding that it was actually for long-term permanence of this planting. Why wouldn’t it be a requirement that it be biodiverse?

Mr Carruthers —In relation to any land area, there are applicable conservation and biodiversity regulations that deal with those matters. So, to the extent that governments have made public policy decisions about biodiversity outcomes, these plantings must meet those terms.

Senator MILNE —Yes, but they do not have to be; they can be monocultured. You can get a 100 per cent tax deduction for planting 1,000 hectares of blue gums. There is nothing in the definition of carbon sink that says that it must be biodiverse for the purposes of getting the tax deduction. I am asking you: why not?

Mr Carruthers —Well, Senator—

Senator HEFFERNAN —He doesn’t know.

Mr Carruthers —The example was previously made of the tax act in relation to deductibility for buildings. Under tax legislation we do not require that applications for deductibility for constructing a building should meet some kind of streetscape architectural requirements. These are dealt with through other public policy.

Senator MILNE —I understand that, but you are here from the climate office and I would have thought that resilience in ecosystems would be something that you would be concerned with and that in this legislation that is what we would be seeing. Instead of that we have no resilience built in, and in fact there is a disincentive for multispecies plantings, because they cost, as we have just heard from Greening Australia, many times more to establish in relation to anything else.

Mr Carruthers —Senator, I think the intent of this legislation is indeed to achieve the integrated outcome that you describe in terms of climate change objectives, natural resource management objectives and environmental objectives. There is added focus and pressure through this legislation to declare that all the applicable public policy at all levels of government and all the industry codes and whatever are complied with in making a tax deductibility provision. If governments, through public policy, choose to strengthen or change requirements to do with conservation or other matters over time, then these guidelines have built into them the flexibility to require that the standards of the day are met in making an application for establishment costs.

Senator MILNE —Who is going to monitor and enforce compliance? And where are the penalties? Who is doing the monitoring of this? What if they do not comply with Tasmania’s land-clearing laws? Nobody else does, so I do not see why this lot would.

Mr Carruthers —The Secretary of the Department of Climate Change, under the legislation, is required to establish whether there are reasonable grounds for believing that those environmental and natural resource requirements have not been fulfilled. If such a determination was made, then the deductibility would be denied by the Australian tax office under the provisions of the legislation. Given the keen public interest in these matters, I am sure that it would not just be the Department of Climate Change that would have its eyes and ears open in determining and assessing conformity with the legislative provisions to see whether there may be nonconformity. I am sure that there will be many interested parties, including the buyers of the carbon credits and organisations like Greening Australia and other public voices.

Senator MILNE —Will there be a new unit put in place?

Senator NASH —I wanted to ask a question exactly on that: about process. I know you said the secretary is only one bloke, but what is the audit process? And I think Senator Milne was about to ask: is there going to be a unit? What is the process?

CHAIR —Senators: one question at a time. Senator Milne has the call. She has acknowledged Senator Nash asking the question. When it has been answered we will go back to Senator Milne to wrap up her questions.

Mr Carruthers —The applicant for tax deductibility is required to provide statements and to make available any relevant documentation—

Senator NASH —No, I understand all that.

Mr Carruthers —to support that.

Senator NASH —But post that—what is going to be the audit checking process? Who is going to do what? I am asking about the sheer practicalities of the audit.

Mr Carruthers —The Australian tax office, under their auditing provisions, will refer applications to the Department of Climate Change, and the Department of Climate Change will have the opportunity, in consultation with other departments, to determine whether there is any reason why that statement and application may not be in conformity with environmental and natural resource requirements.

Senator NASH —What about the ongoing audit process of ensuring that what has been set up is carried on—if it is right in the first place? If you assume that, in the first place, having gone through all those processes, everything is ticked off, what is the ongoing audit process to make sure that everything is carried on in the way that the proponent has said that they will?

Mr Carruthers —We are talking about an establishment activity. I am not sure what particular characteristic we are speaking about on an ongoing basis.

Senator NASH —It is a set period of time, so, unless somebody is checking that those trees have not fallen over or that the rabbits have not eaten them—

Mr Carruthers —So that is the continued life of the trees as distinct from what the feral pest management practice might be over time. The establishment of the trees is connected to the operation of carbon markets. At the present time that is voluntary. But, of course, the Australian government has announced recently, through the green paper, the Carbon Pollution Reduction Scheme proposals, in terms of a formal carbon market. Under those voluntary schemes, in terms of bilateral arrangements between, say, energy companies and growers, in terms of future emissions trading arrangements, there basically is a requirement that what can be credited is the sequestration of the time, and if the trees are destroyed—

Senator NASH —Actually, I am going to stop wasting the committee’s time—

Mr Carruthers —then the credits are lost.

Senator NASH —No; just stop there. That did not answer my question at all. I give up.

Senator MILNE —My final question is: in relation to plantation companies, are they going to be allowed to manage an area for both sequestration and harvesting—that is, manage 1,000 hectares, 500 hectares or 700 hectares for carbon and do it on a rotation basis so they have a fixed volume of carbon for the entirety of the time and keep on logging in rotation so they essentially get a windfall gain on their carbon as well as their fibre? Is that going to be allowed? That is currently allowed under the voluntary scheme, isn’t it?

Mr Carruthers —The particular deductibility for a particular unit of land under a carbon sink forest is only where the trees are not for felling. If a particular enterprise—

Senator MILNE —Where does it say that in the legislation? Never mind. I am asking about the issue of this management for both.

Mr Carruthers —If a farmer or another entity chooses to plant trees for another purpose—for example, for Landcare purposes or for MIS forestry or for direct investment in forestry, that would be under a different provision of the tax act.

Senator MILNE —But what if I plant 1,000 hectares and I claim a tax deduction of 500 of those for carbon sequestration and 500 under an MIS, and then I manage the lot on a rotation?

Mr Carruthers —There is no rotation where a tree cannot be felled. There is only a rotation where you harvest the trees and you replant. If you cannot fell the tree, then there is no replacement of the tree, under normal circumstances.

CHAIR —Senator O’Brien.

Senator O’BRIEN —Let us delineate this. If a managed investment company put in 1,000 hectares of trees, under the MIS rules, subject to certain conditions, they can claim the deduction up front in the year of investment, as I understand it.

Mr Carruthers —Under the tax act provisions dealing with MIS forestry—which has attached to it a requirement that the trees be felled. But that is not this part of the tax legislation we are dealing with today.

Senator O’BRIEN —I understand that. I just wanted to separate that, because there seems to be a little confusion creeping in. That is a much more advantageous deduction regime in the sense that it is an up-front deduction of the cost of placing the trees in the ground, and there are other matters that can be considered at the same time.

Mr Carruthers —That is right. And there are other commercial returns from the operation—the sale of the wood products.

Senator O’BRIEN —Whereas with this provision the deduction is spread over 14 years and 105 days.

Mr Carruthers —This particular tax provision is structured in two steps. For the first five years, up until the year 2011-12, there is immediate deductibility for the establishment costs. From the point of 2012-13, it goes into a different regime, which is that of deductibility over approximately 14 years—which is the same regime that applies for long-lived horticultural crops.

Senator O’BRIEN —Can you explain the rationale for that differentiation?

Mr Carruthers —Yes. At the present time there is no deductibility for establishment of forest carbon sinks. I will leave my Treasury colleague to remark on this in terms of his authority, but, in my general understanding of the matter, that is a very anomalous situation under the tax act. The tax act ordinarily would provide for tax deductibility—and there is a bit of a history to this, in terms of the ATO having had more than one version of interpretive decisions on this kind of application. So, if you like, this is putting to rights an anomaly in the tax legislation. But, in doing so, the former Howard government took up the issue of providing an initial incentive arrangement with more favourable deductibility provisions for an initial period of five years. That has been taken up by the current government with the same provisions. The idea is for a short period to give an additional incentive through the immediate deductibility provisions—which is more or less the same as the deductibility provisions that apply on a permanent basis for Landcare plantings, for MIS forestry and for direct investment in forestry. For a short period there will be equivalence; after five years there will be a less favourable deductibility situation for carbon sink forests.

Senator O’BRIEN —Is that because there is expected to be an ongoing income stream from a carbon-sequestered forest?

Mr Carruthers —That is basically the logic. We are dealing with a situation of voluntary markets at the present time, and it is appropriate to take a different tax policy viewpoint once we have formalised carbon markets.

Senator O’BRIEN —Presumably the way the market works will determine the value of those forests against different options. We are to consider where the rules that will apply in relation to those forests might be found. You have talked about state legislation. What federal provisions to your knowledge will apply to the management and arrangements around carbon sink forests?

Mr Carruthers —Of course, from the outset, in terms of establishment cost, the tax act is applying as are the provisions in terms of things like Environmental and Natural Resource Management Guidelines. When it comes to the marketing of the carbon credits, we have already mentioned states’ carbon right legislation. There is not federal legislation in that area. The sale of carbon credits at the present time is done under voluntary markets. The Australian government has a voluntary carbon market arrangement at this time that has been in existence for several years, the Greenhouse Friendly scheme. That has a variety of provisions in it that would apply to these carbon sink forests, such as permanence of the trees and make-good provisions in circumstances of loss of the trees.

Senator O’BRIEN —I understand that the Environmental and Natural Resource Management Guidelines would have to be complied with and that they are as promulgated by the minister from time to time. Is that a correct understanding?

Mr Carruthers —Yes, but they are cast in a way that is intended to be durable over time. As I explained to Senator Milne, if there were a change in environmental and natural resource guidelines brought in by Commonwealth or state governments then these guidelines would automatically pick it up.

Senator O’BRIEN —Will the notification at the time the tax deduction is sought identify the location of the forest in terms of size and the necessary datum points?

Mr Carruthers —That is correct.

Senator O’BRIEN —So you are satisfied that the legislation adequately provides for that identification so that it cannot be traded by an entity within itself or another forest?

Mr Carruthers —That is true. Of course, as I have explained to other parliamentary committees at different times, through the National Carbon Accounting System we have a record of the tree cover of Australia at the subhectare scale over more than 30 years, so we know what is happening out there in the landscape in terms of clusters of trees. It is a very simple matter to check the GPS coordinates on somebody’s claim against what satellite records show at the point from establishment and out in time.

Senator O’BRIEN —Are they publicly available?

Mr Carruthers —Yes. We release the remote-sensing covers for use, including in easy-to-use form. We expect that the applicants will use them to demonstrate their claim that they are planting on non-forested lands.

Senator O’BRIEN —Thank you.

Senator JOYCE —My question is to Mr Flavel. I will premise things around this question later on. What is required to grow a tree?

Mr Flavel —Presumably one needs land, seed and other inputs to make it grow.

Senator JOYCE —Thank you very much—land, seed and other inputs. We will have that in the Hansard. I draw your attention to part 40-1005 of the TLAB, which says that you can deduct an amount for an income year if you incur capital expenditure that is covered under section 40-1010. Mr Flavel, can you explain to me what capital expenditure is?

Mr Flavel —Generally the expenditure on the creation of a capital item.

Senator JOYCE —Such as land—just what you discussed before?

Mr Flavel —Not land, no.

Senator JOYCE —Why not land? It is capital.

Mr Flavel —No, the explanatory memorandum says that expenditure on assets separate from the trees is not considered to be establishment expenditure.

Senator JOYCE —Now we go to something that is very crucial, because this legislation is quite specific. It says further in 40-1010 that this expenditure is covered in relation to particular trees. You have just told me that in relation to the growth of trees it includes land. Also I have noted that in section 40-1020 certain expenditure is disregarded. It talks about draining swamps and clearing land but it does not actually mention land itself. You have brought up the proposition that the explanatory memorandum is superior over what is in the legislation, but of course in this game we know that that is not the case—that if it is not in the legislation it is not in the legislation.

Mr Flavel —The tax law more generally does make provision for the fact that land is a separate CGT asset. Saying that expenditure on assets separate from the trees is not considered to be establishment expenditure makes it pretty clear that land is not available to be deducted under this provision.

Senator JOYCE —That is in the explanatory memorandum, but it is not in the legislation, is it?

Mr Flavel —The explanatory memorandum lays out—I think at paragraph 36—

Senator JOYCE —You are talking about the explanatory memorandum, aren’t you?

Mr Flavel —Sure. But this is providing guidance on the way that the law is interpreted. In the cost of establishing trees it goes through and talks about acquisition costs.

Senator JOYCE —So why did you find it necessary to include in the legislation, at 40-1020, things that will be disregarded? Why didn’t you also include them in the explanatory memorandum?

Mr Flavel —I presume there are a range of other things that would be excluded by virtue of the fact that they are a separable CGT asset.

Senator JOYCE —Well, it is not there. The next thing is that we have already had a witness come in today and say that about $5.3 million is the assistance by reason of tax legislation that the forest industry gets. I want to know from you—and you might have to take this on notice—how much is currently nominated as a deduction by reason of timber being grown under MISs. Whatever is nominated under that times somewhere between 15 and 30 per cent—say, about 30 per cent—will be the effect of the deduction. I am sure it is going to be far in excess of $5.3 million. But I would be happy to limit MISs to a tax effect of only $5.3 million. Can you answer that or will you take that on notice? Although it is not an MIS it is going to have the same effect.

Mr Flavel —I guess I would direct the committee to the annual tax expenditure statement which is put out, which basically lays out, for a whole range of concessional arrangements, what the effective cost from a benchmark of that is.

Senator JOYCE —If you could get back to us with how much MISs cost I would be much appreciative and so would the committee. You will have an income stream, by reason of the increase and weight, which people will be using as a carbon credit. How do you propose to value that carbon credit and how are you going to deal with that?

Mr Flavel —It goes a bit beyond my expertise, unfortunately, but there are a number of tax rulings around the tax treatment, if that is what you are asking about, of carbon credits.

Senator JOYCE —Just for the purpose of the Hansard so that other people can understand this, I have bought some prime agricultural land on which I am now growing some blue gums or Eucalyptus saligna. I now have 100,000 tonnes of timber on that land and I will be using that credit to offset things. That is an income stream; how will you tax it?

Mr Flavel —I will take that on notice.

Senator JOYCE —Was your department ever approached to become involved in a socioeconomic study on the effects of this TLAB bill? I am speaking specifically in relation to regional areas that are surrounded by prime agricultural land.

Mr Flavel —Perhaps you could just define what you mean by ‘socioeconomic study’.

Senator JOYCE —Has anyone ever approached Treasury and said, ‘Well, we’d better find out what current income streams are coming from certain areas’—say, around the Murray River or agricultural land around Tully? ‘What will be the effects of the diminution of income by reason of this land now being tied up in a carbon sink? What will be the loss of income in those areas? You guys would know because you do the tax returns and you have all the information; therefore, you can provide us with what the effects on these areas would be if we were to, say, put in a model that removed 10 per cent, 30 per cent or 40 per cent of this arable land to enable it to become a carbon sink.’

Mr Flavel —Not to that extent. I think it needs to be noted though that, at the time the measure was announced, there was simply a voluntary market for carbon offsets—in other words, not a functioning price—in which case it was pretty difficult to argue that there were going to be various sorts of displacement effects in particular regional areas as a result of deductibility.

Senator JOYCE —With the design of this legislation, was there much input from the Minerals Council, any of the major miners or any of the major carbon emitters regarding what they would think would be a desired outcome for effective legislation?

Mr Flavel —I would have to go back and check. Certainly the main parties involved in the consultation process would be those directly involved in establishing carbon sinks, such as specialist companies who have begun to pop up in that sphere, rather than third parties who might be seeking to procure carbon credits from those particular arrangements.

Senator JOYCE —Of course, they would be in close consultation with their market, and their market is the major carbon emitters. It would be more or less a conduit from those major emitters, via those who are going to create the forest, to you. So they are—even though, for want of a better word, you are—the errand boys from the carbon emitters’ grocery store coming back with the up-front tax deduction they want to give themselves. The up-front tax deduction for the first five years is a whopper. Do any other industries get such an up-front tax deduction? Apart from MIS, do any other agricultural industries get such an up-front tax deduction—fruit trees, grapes or whatever? I do not know; call it what you like. Can I build a set of cattle yards and get an up-front tax deduction? Is there anything else that gives us an up-front tax deduction like that?

Mr Flavel —Mr Carruthers mentioned, I guess, some analogous ones in relation to planting trees. For primary producers, where the primary purpose is to avoid degradation, the land care provisions allow for the planting of trees.

Senator JOYCE —If I raise cattle, can I build an abattoir in town as a form of capital expenditure and get an up-front tax deduction for its construction?

Mr Flavel —It would be more likely than not that for an abattoir, if we are talking about a building, you would not get up-front deductibility.

Senator JOYCE —What if I decide to grow apples and I plant and grow a heap of apple trees out at Baradine? Am I going to get an up-front tax deduction for planting those apple trees?

Mr Flavel —No. Apple trees and other horticultural plants have a specific provision in the tax act.

Senator JOYCE —Let us say that I am growing wool and I am going to put in a wool shed and yards. Am I going to get an up-front tax deduction for putting in a wool shed or anything like that?

Mr Flavel —Again, if the wool shed is in the nature of a building, you will not get an up-front deduction.

Senator JOYCE —So why do these guys get an up-front tax deduction?

Mr Flavel —I think Mr Carruthers mentioned before that in the examples you have used you actually have commercial markets. If you are talking about apples, there is a world price—or at least an Australian price—for apples. It is very clear, if you go into that business, about whether you are likely to make a profit or not. We still have a voluntary market for carbon. There is a very weak carbon price. It does not provide much incentive for people to go into that as a business partner.

Senator JOYCE —At this point in time in the economic cycle, do you find that the people that you would see as requiring carbon credits from the creation of forests—because they are minors—are struggling? Are they doing it tough? Do they need some more assistance?

Mr Flavel —I think the state of the terms of trade and the contribution of the resources sector to that are fairly well known.

Mr Carruthers —What we can observe is that, in the absence of tax deductibility in the past several years, you essentially have extremely little activity in establishing forest carbon sinks.

Senator JOYCE —Why is there such a weak carbon market presently?

Senator MILNE —We did not have a price signal for a decade.

Senator JOYCE —I am asking that because this is apparently why they are getting the up-front tax deduction. I want to know why there is such a weak carbon market at present.

Mr Carruthers —The impact of greenhouse emissions into the atmosphere is basically being treated as an externality and is not registering back in market prices. With the introduction of the Carbon Pollution Reduction Scheme, that will change, but if we want to foster forest carbon sinks at an earlier point to start to give us one more option and not wait around, then you need some kind of incentive, but the market is saying that.

Senator JOYCE —The argument is saying that the market is going to be the altar that is going to make everything perfect and everything is going to work out because the market will make it work out. If the market is going to make it work out, why do you manipulate the market by giving an up-front tax deduction? If these people know, from your externalities that are going to come into place, that carbon is going to become a profitable product that is worthwhile being involved with, why do we need to give them more advantage? If you can foresee it, they can foresee it. Shouldn’t that be enough? Why does the Australian taxpayer need to work more Mondays and more Tuesdays because major coal companies are getting an up-front tax deduction to take out prime agricultural land?

Mr Carruthers —Firstly, the immediate tax deductibility is for a short-term temporary period.

Senator JOYCE —Five years.

Mr Carruthers —Five years.

Senator JOYCE —Give me five years of up-front tax deductibility and see the damage I can do.

Mr Carruthers —Secondly, we have commissioned a study with ABARE.

Senator JOYCE —I wish I could take call options on ABARE’s predictions. I would be a rich man.

Mr Carruthers —We thought the committee might be interested in looking at the economics of the carbon sink forests establishment. I think it will show that basically the establishment of carbon sink forests will only occur in essentially niche situations where it serves the purposes of a broader integrated management of the land by farmers.

Senator JOYCE —Why did you not exclude from your model prime agricultural land and make an exemption? We have so many other examples in tree clearing guidelines and soil conservation guidelines and former western land district guidelines where they have certain prescriptions for certain land. We have them in Queensland where, if you knock over a tree, you almost go to jail. Why couldn’t you say, ‘This piece of legislation is excluded from these types of prime agricultural areas because we do not want to put further pressure on the price of groceries’?

Mr Carruthers —I think farmers will make their own decisions about economic returns on their land and different production systems, and I think it is very clear that, in these weak, voluntary carbon markets, carbon sink forests simply cannot compete against prime uses of the land.

CHAIR —Thank you, Mr Carruthers. Sorry, Senator Joyce; I will have to go to Senator McGauran. We have gone over time.

Senator McGAURAN —I have just two questions. Is this system modelled on or close to any other system in the world, or is it a world first?

Mr Carruthers —I cannot answer that. I guess this has been looked at in the Australian context. I do not know the answer to your question.

Senator McGAURAN —Could you take that on notice?

Mr Carruthers —Yes, we could make inquiries on the matter.

Senator McGAURAN —It is significant. If this is the first in the world to get up and running then that is significant to those of us writing the inquiry report, I dare say, given all the other factors.

Turning to my second question, I know you said that you are able to audit the claims of the tax claimant—that you can either jump in the car and drive out there or zoom in on it with your satellite. But how do you audit their claim of carbon sequestration, the tonnage? If they put it to you that this plantation eats so much carbon, how are you going to audit that?

0Senator Milne interjecting

Senator McGAURAN —The reason I ask is that we had the CSIRO before and they made it quite clear—that is how I understood it—that the science has not even reach that point. So how would you do it?

Mr Carruthers —Well, the quantity of carbon credits to be sold from a particular planting of a carbon sink forest will be a matter between the grower and the purchaser. As for the tools to quantify that, we have a national carbon accounting system that is doing this now for the forest plantings around the country, both commercial forestry plantings and environmental plantings. Australia has quite an advanced capability in this area.

Senator McGAURAN —Thank you.

Senator HEFFERNAN —Let’s say, Mr Ryan, you are Origin Energy; Mr Carruthers, you are the carbon guy that is going to contract with Origin Energy; and I am a farmer, and you come out to me and say, ‘I want to put 1,000 acres of forest on your 100,000 acres for a carbon sink, mate.’ Do I have to have a development application? You compared it to a building. With a building you actually have to have a development application approval system.

Mr Flavel —From the viewpoint of the Commonwealth Department of Climate Change, I am not in a position to know what pieces of local government or state legislation might apply to any particular unit of land.

Senator HEFFERNAN —Well, you made this motherhood statement, and this is quoting from the guidelines:

Carbon sink forest establishment activities should be guided by regional natural resource management plans and water sharing plans …

What is that supposed to mean? Do you have to go through a development application process to comply with that or do you just say, ‘Yeah, mate, we comply.’

Mr Carruthers —It would depend on the particular catchment as to what the operable provisions are.

Senator HEFFERNAN —Yes, but it is just a vagary. There are no guidelines. There is no ‘sign here’ and all that. Under what is proposed—

Mr Carruthers —Senator, the tax applicant does need to sign the statement.

Senator HEFFERNAN —Yes, but the Commonwealth is saying:

Compliance with this guideline may be achieved by ensuring that establishment activities are consistent with regional natural resource management plans, for example by identifying:

  • strategies for ensuring that individual carbon sink forest plantings account for natural resource management priorities at a larger regional scale …

What does that mean? How do you go about that? What is the process?

Mr Carruthers —The applicant is required to establish what environmental or natural resource regulations or codes or whatever are applicable to the particular location in which they have the intention to establish the trees.

Senator HEFFERNAN —You don’t know the answer, in other words. You don’t know the answer. It goes on:

  • potential cumulative environmental impacts of carbon sink forest activities at a catchment scale.

In cases where establishment of carbon sink forests would represent a significant interception activity in a catchment that has been identified as fully allocated, over-allocated or approaching full allocation, water access entitlements must be obtained.

How do you do that?

Mr Carruthers —There will be a regulatory requirement—

Senator HEFFERNAN —So it is not out there yet—this is something to be built?

Mr Carruthers —This is—

Senator HEFFERNAN —My first question is: would you have to go through a process of development application approval to make sure that if that were the case you knew it before you started? This is if you planted the trees and discovered all this after the event. The difficulty is that the enactment side of it is all laid out in the various state government acts. Do you agree with that?

Mr Carruthers —Commonly.

Senator HEFFERNAN —In each state, the registration of carbon rights leads to a different piece of legislation requiring different agreements. So, if you are a national operator in the carbon sink market, every model you had would have to be different in every state—do you agree?

Mr Carruthers —That seems to apply in most areas of commerce in Australia.

Senator HEFFERNAN —Areas of legislation that could fall into conflict would be everything from mining and exploration legislation, the National Water Initiative, local and state government planning, emergency services legislation, national greenhouse, trades, state and vegetation legislation—there are about 20 pieces of legislation that are in conflict with the Commonwealth. Do you understand that?

Mr Carruthers —For any activity taken out on a piece of land, the person concerned is under an obligation to conform with the laws of the land—

Senator HEFFERNAN —Earlier you said that the—

Mr Carruthers —and in some cases there will be a number of requirements that apply to the individual.

Senator HEFFERNAN —Earlier you said that the biodiversity side of this would be done by other means. They were your words. What are the other means?

Mr Carruthers —There are various—

Senator HEFFERNAN —Well, tell us what they are.

Mr Carruthers —State legislation—

Senator HEFFERNAN —Well, tell us what they are.

Mr Carruthers —to do with endangered species or a variety of areas.

Senator HEFFERNAN —You do not know. Could you provide it to the committee? You made the statement. You said, ‘She’s right, mate; it’s ticked off by other means.’ What is the other means?

Mr Carruthers —I said that there is in place a range of legislation for a variety of public policy purposes, such as conservation, which will be applicable in the various situations and that, basically, the applicant needs to comply with all the relevant legislation and guidelines that apply to that land.

Senator HEFFERNAN —But no development approval is required. The point that Senator Joyce made with MISs is that they were given an exemption from environmental planning. Where is the enforcement of an approval process here? A lot of the land has already been acquired; people are already out on the plains. They said, ‘You wouldn’t need environmental approval out there; we’ll just put them in.’ What is the approval process? Who has the lead form, the lead agency? What is your connection between the states to see that the states have got it right? In Civic here the other day they gave a development approval for a building, but, oops, they made a bureaucratic mistake which is now going to be a lawyer’s feast. Where is the protection here? You have not brought anything to the table to say: ‘Here is the other means.’ You have just said ‘the other means’.

Mr Carruthers —The individual concerned, irrespective of tax deductibility, has an obligation under state laws et cetera to conform with those laws.

Senator HEFFERNAN —How do you conclude when the state government in New South Wales, for instance, does not know the answer, because there are still MISs going in? What the mob at Tumut said this morning is that stacks of forestry is going in there. There is no environmental planning around it. All you have to do is buy the land and plant the trees—as long as you do not plant out three- and four-class streams. There is no study on the impact of the run-off. This gobbledygook here, which is well intended, is nicely phrased and a lovely motherhood statement, and I agree with it—

CHAIR —We are running short of time. In fact, Senator Heffernan, we have gone over time. Could you get your questions to the department officials in the shortest possible time; we would appreciate it.

Senator HEFFERNAN —What is the process for enforcing this? ‘In cases where establishment of carbon sink forests would represent a significant interception activity in a catchment’—who is going to identify that?

Mr Carruthers —There is a major national initiative on water management underway at the present time, which is focusing on—

Senator HEFFERNAN —Does this have to go on hold until all that work is complete?

Mr Carruthers —No. Any planting will be subject to the law of the day.

Senator HEFFERNAN —But the law of the day is silent on this. You say the study is underway now. Mate, I am asking questions I know the answer to. The work is not done. This is a giant foray into the unknown with guesswork, because we have not established this sort of work. I agree—I have been saying this about plantation forestry for ages—that they should buy a bloody water licence because, at 40 inches, they intercept 2½ megalitres per hectare per year for nine years of the normal growth of a 15-year cycle. I agree with all of that. But you are not equipped to do it. You are handing out the tax deductions—and I have got people ringing me; the CO2 mob have rung me and have now emailed me to say that they are going to have a forestry right. That is good stuff. In Western Australia, we are going to have—

CHAIR —They will be here and we can put the question to them. Anyway, Senator Heffernan, can we get to the questions.

Senator HEFFERNAN —Do you understand? You are not equipped to do the task that these Environmental and Natural Resource Management Guidelines in relation to the establishment of trees for the purposes of carbon sequestration set out?

Mr Carruthers —I think you are retracing some ground that Senator Milne covered earlier on. I explained that, in some ways, this comes in on top of whatever the laws of the land are that apply—

Senator HEFFERNAN —But there are people in the market now to buy.

Mr Carruthers —To an exceedingly small extent.

Senator HEFFERNAN —Yes, right. So there are ones who are in the market now and—oops!—later on you come along and say, ‘No; that was a bit of a sensitive area there. Bear in mind the 40-year science says it is all going to be ratshit anyhow.’ How do you retrospectively deal with people who are in the market now?

Mr Carruthers —I think the answer to that was contained in the answer I gave to Senator Milne earlier, and that was: we have several factors operating here. Firstly: the applicant under the tax act is required to conform with all relevant state legislation of the day.

Senator HEFFERNAN —And the relevant state legislation—

Mr Carruthers —If I could just finish—

Senator HEFFERNAN —is incomplete. It is meaningless.

Mr Carruthers —Could I please finish, Senator.

Senator HEFFERNAN —Righto.

Mr Carruthers —Secondly, the buyers of the carbon credits, in this kind of voluntary market, do have an interest in the integrity of the product that they are buying. I think you will find that that is typically the case. Thirdly, there will be a range of interests out there who will be keen to see that there are consistent integrated solutions being achieved with forest carbon sinks and land and water management more broadly.

Senator HEFFERNAN —Yes, yes. Please—I surrender. That sort of bureaucratic, meaningless gobbledygook—I surrender on that. But can I say, for the person who is acquiring the carbon credit for the sink: there have been no witnesses today who have been able to tell us how you would certify that the carbon credit that they have acquired actually, over an extended period of time, would turn out as an assessable event—no-one. You would be the first one.

Mr Carruthers —Do you mean the tonnes of carbon?

Senator HEFFERNAN —Yes. What if half your trees died—if you were out there on the plains with CO2 at Hay and you planted 20,000 acres of trees and half of them died? Go up to see the sandalwood plantations, the MIS at Kununurra; if you fly over you will see that half the trees are dead. The mob that acquired—

CHAIR —Some of them are alive and well and looking very healthy.

Senator HEFFERNAN —The mob that acquired the carbon offsets are really only worried about the licensed bit of the carbon offset for their credit system. They are not worried about the health of the trees; that is someone else’s worry. And I presume that—

CHAIR —You are on to your last question, Senator Heffernan. We have gone 20 minutes over.

Senator HEFFERNAN —There is no science. No-one has come along today—not even the CSIRO—and said how you could monitor that. And you cannot either. All you are saying is, ‘It is state.’

Mr Carruthers —I have not said that in relation to the estimation of carbon sequestration.

Senator HEFFERNAN —Well, we do not know the answer, do we?

Mr Carruthers —I have said that Australia in fact has quite a strong capacity in that area.

CHAIR —If you have the answer, great; if you do not then we will have to wrap it up. Thank you very much and thanks for your time.

[12.37 pm]