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Parliament House, Canberra, 14 February 1997: transcript of press conference [infrastructure borrowings]

Good morning ladies and gentlemen of the press.

Today I'm announcing a number of measures to prevent abuse of the infrastructure borrowings taxation concession which if left unchecked would pose a major threat to the revenue.

Infrastructure borrowings were first introduced in 1992 in the One Nation Statement and amendments were introduced in 1994 as part of the Working Nation Statement. Under the infrastructure borrowings tax concession the person who borrows funds forgoes the right to use the interest paid on those borrowings as a tax deduction and in return, the lender, that is the person receiving the interest gets that interest tax exempt.

The object of that arrangement was for borrowers for whom tax deductions are not necessarily useful because in stand alone projects, they may not have had revenue streams to use them up, would pass the value of those tax concessions to lenders who in return would give lower interest rates to the borrowers and enable infrastructure to go ahead.

In the period between 1994 when the Development Allowance Authority assumed responsibility for this up until 30 June 1996, it had issued certificates in respect of 12 projects with a total borrowing of $4 billion and it had 6 applications on hand. But in the months of July and August 1996 it received 71 applications. So in the previous two years it had 12 certifications with 6 applications pending. In the two months leading up to 20 August, 71 applications were received in respect of estimated borrowings around $21/$22 billion.

As a consequence of that I closed the scheme to new applications on the 10th of September 1996 and instructed the Development Allowance Authority to investigate all of those applications. The Development Allowance Authority estimates that if all of those applications were certified in their current form, the cost to the revenue over the next three years would be over $4 billion assuming all projects went ahead. It further advises that if any of the applications were amended to make them more tax aggressive the cost could be substantially higher.

Now I want to stress at this point that there are amongst those applications some that are straight up and down, but there are also amongst those applications, applications which are extremely tax aggressive. And what the experience shows is that the aggressive nature of the schemes has been increasing. The Development Allowance Authority has received legal advice to say that it is not able to refuse certification on the grounds that they are providing undue tax benefits and, as a result, the Government will enact legislation effective from midday today which will prevent any of those applications being certified. It's the certification that gives the infrastructure borrowing the tax exempt status.

That legislation will also prevent the lodging of any new applications and it will also prevent the amendment of any existing certificates to make them more tax aggressive or the re-engineering to increase their tax benefits. But I want to stress at this stage that certificates which have been issued are unaffected. Projects which have commenced will continue and they will not be affected in any way. The only changes will relate to those applications which have not yet been certified and therefore are not yet effective for taxation purposes.

What the investigation by the Development Allowance Authority also shows is that the benefits in the re-engineered schemes are principally being accessed by financial packagers and high marginal taxpayers, or people who would be otherwise high marginal taxpayers, not the developers concerned.

Now just to give you an illustration. This is one proposed arrangement which has been forwarded to the Commissioner of Taxation for a ruling. This is the project concerned and it's in respect of $100 million for the project. The proposal is to move through a number of interposed companies and packagers down to a financial institution so that by the time it is being offered out to retail investors. the .21()() million is being worked up, $1()() million of money for this project is being worked up to Mi l 51 million. The reason why that is being done is not only is the interest on an infrastructure borrowing tax exempt but any capital gain on an infrastructure borrowing is tax exempt. So that if they are on-sold at an increased value, the capital gain is exempt from taxation as well.

By the time that it's worked up to much more than ever went into the project it can then be offered to retail investors. This is one such offering which is currently available. A retail investor will be offered under this example, and I should say this is not related to that, that's something that's been put to the Commissioner of Taxation for an opinion, this is an actual offering that has been made. In this example here, a person is offered $500,000 worth of infrastructure borrowings. They also take a loan to buy those infrastructure borrowings. They pay interest in advance on the loan. They pay a management fee, and that requires $585,000. The loan which they take is $549,000 and they pay $36,000. They re-sell the bond back to the lender who gives them the loan and that extinguishes the loan. The interest they pay on the loan to buy the infrastructure bond is deductible, as is the management fee. As a result of this transaction, for an investment of $36,000, they get $85,000 worth of tax deductions. On the top marginal rate, that is worth $41,582. I think in this particular example, you buy the bond on the 28th of June for $36,000. You get $85,000 worth of deductions in that financial year, which is worth a return to you of $41,000 after tax. As I said, in this example the bonds are brought back from you in the next financial year. You can re-buy the same bond in the next financial year and get the deductions again. So under this example you are essentially putting out $36,000 to buy $85,000 worth of tax deductions.

This particular example is offered with the following table, which explains how it works. The buying of bonds under this particular arrangement only becomes tax effective at $135,000 because you are buying an $85,000 tax deduction and $50,000 is where the marginal tax rate of 48.5 cents comes in. This is an arrangement that works on the 48.5% marginal tax rate. So this is the example you see over there. $500,000 worth of bonds, your contribution, the financing of it, the tax deduction you get and the minimum taxable income which is required to make full use of an $85,000 deduction at the marginal rate of 48.5%. They've published right down here the advantages for people up to taxable incomes of $466,000 can get.

I should point out to you, too, of course, that if you do get an $85,000 deduction on a taxable income of $135,000, which takes your taxable income down to $50,000, you've got a taxable income of $50,000 which would also bring you in the range of a number of social security benefits and, in fact, offerings are now being put out in this form with DSS social security guides so that you can also tailor in relation to that.

Now, I want to make it clear that the Government is not being critical in any sense at all of the projects. The vice, however, with infrastructure borrowings is that the taxpayer is not getting value. This is a very tax expensive way of getting money to those projects. It's tax expensive because instead of, as was the original plan, the borrower foregoing their right to have a tax deduction and the tax foregone by the borrower equalling the tax benefit received by the lender on some kind of symmetric one-to-one ratio, you're getting in these sorts of examples ratios of one-to-seven or higher. That is, the benefit to high marginal taxpayers in terms of their ability to save themselves tax is extreme multiples of the tax rights foregone by the borrowers. What that means is that it means that this is not an effective scheme for taxpayers. And as I said before. although the previous Government. which had introduced this scheme. had set caps on the revenue cost of the order of $200 million, if the current applications were to go ahead over three years and all of the projects went ahead, the potential cost to the revenue would be $4 billion and escalating.

Now, as far as this Government is concerned, we cannot let a scheme like that go ahead and continue. We can't let these kinds of benefits accrue to high marginal taxpayers. The reality is that if these kinds of benefits continue to accrue to high marginal taxpayers, some other taxpayer is going to bear the cost or some other person who is dependent on an outlays programme is going to bear the cost. And frankly we don't think it's fair to ask the battlers to be paying full tax dollar when such an easily available tax minimisation arrangement is open to high marginal taxpayers. We think it's a question of equity and it's a question of making sure that taxpayers get the most effective arrangements in relation to any tax concessions that are available to promote infrastructure.

Today's announcement is designed to eliminate abuse and misuse of taxpayers' funds. In the budget context, the Government will consider a number of alternative arrangements for continuing support for genuine infrastructure investment, tax effective to the taxpayer as well as the developer, and we will eliminate abuse. Existing applications which will not be certified under this particular scheme will be able to seek consideration under future arrangements.

JOURNALIST: This really shuts down the scheme completely, apart from those that are already past the gate?

TREASURER: Everybody who currently has a certificate is unaffected and there are two projects which have received a letter of undertaking from the DAA. But in relation to outstanding applications, our legislation to be enacted to have effect today will prevent their certification. Therefore they will not be eligible under this scheme.

JOURNALIST: Does that include the six applicants up until June 1996, before you had that flood of - that extra 71?

TREASURER: I think that those six applicants most probably have already been certified. It's only those that are not certified as of today. Certifications have continued since the 30th of June 1996. But in relation to the 71 applications, a lot of them were obviously working against the time limit to get in quickly. They were not highly detailed and they were not highly developed. They would have been working on that. Some probably still aren't highly developed and detailed. They will not be eligible to proceed to certification.

JOURNALIST: What does this tell you about the accounting profession, though? I mean, this is clearly a bit of a try on. If I buy a bond ... If I buy one of these bonds. I'm not a lender of the first order. I'm not a financial institution but a financier is getting my money, your money and somebody else's money and pretending that they have this capital to lend to a developer. I mean, that obviously wasn't the intention of the original legislation.

TREASURER: This is not the intention of the original legislation and in the early days it was not what was going on and, even in relation to many of these applications, this is not what is proposed. But what you see with these schemes is you just see an increasing exploitation of them and they get more and more financially aggressive. And as you quite rightly point out, that what is happening here as you sort of force the bonds up through the chains with capital gains tax exemptions and you're getting them out here to the retail investors, is that the benefits of these tax concessions are being captured here by the retail investors - you know, if you happen to have enough income on the marginal rate - and being captured here by the financiers who are working up their value and also being captured here by the people who are making the loans to negative gear. You see, what you're effectively doing is you're negatively gearing on a tax exempt instrument.

JOURNALIST: Have you got any figures to show how many high income earners have been using this and are claiming social security benefits as well?

TREASURER: No, I don't.

JOURNALIST: What does this issue say about sort of broader problems with the tax system? I mean, the fact that your indirect tax base is falling away, the Government's having to lean harder on income tax. People are always going to be looking for these sorts schemes, whether it be just basic negative gearing. I mean, negative gearing is still going to be a problem and things like that as well.

TREASURER:It's true. I've said before that in relation to income tax, people will always look for ways to minimise it. And the thing about this is that this is apparently quite legal. I mean, these things are retailed with legal opinions and the essence of the legal opinion is that the Government having introduced tax exempt infrastructure borrowings, you are entitled to take the benefit of it and the legal opinion says this is in accord with legislation. Now there is nothing in the legislation for the DAA to sit down and say in relation to a particular scheme we won't certify this one. And they've come to the Government and said we think that this is not the intention but we need the legislative mechanism to prevent certification. Well this Government will seek to enact that legislative mechanism. But, you know, what it shows I think is that if you start introducing concessions into the income tax system, you pull a lot of interest into the area and experience shows you that the interest gets more tax aggressive over time. And the same thing was happening in relation to RD syndication. I'm not ... I never attacked the motives in relation to RD syndication but over time they just get much more tax aggressive.

JOURNALIST:Given the aggressive nature of that sort of financial engineering, do you think the Government should have a look at negative gearing?

TREASURER: No, we're not proposing to look at that question generally. You see, what makes this quite different is it's negative gearing on an interest and capital gains tax exempt asset. At least in relation to most negative gearing, let's say a property, if you get any income, which you normally wouldn't because you're negative gearing, but if you did get income, that would be taxable. What's more, the capital gain will be taxable. But what happens here is you're negative gearing on an income tax exempt and capital gains tax exempt instrument. Now that just makes it completely lop-sided.

JOURNALIST: Would you like to get to the position ultimately where tax breaks are paid as direct outlays? I know that the tax expenditure review is looking at that. The budget review. This would be the perfect example. If the Government wanted to fund some of these projects, it would just shell out the money.

TREASURER: Well as I say in here, we are. there are a lot of very good projects in the pipeline that we would like to see go ahead. Some of these applications would not go ahead anyway. Some will go ahead regardless of whether there are infrastructure borrowings around or not and there's a third category in which it will be argued well look. they were marginal projects and it was only these kinds of arrangements that made them feasible. Now we would like marginal projects, you know which are on the right side, to go ahead, and so we'll be looking at how we do that. Now the most obvious way is to ensure some kind of symmetry. For every one dollar of tax foregone, you know through giving away deductibility by the developer, you should give one dollar of exemption to somebody else so that there's a symmetry. The vice of these schemes is not one to one, you know in some it's one to seven and you can get up to huge multiples when you actually think about it. Now you could either do that by doing it directly on outlays or you might do that by having an instrument. You know you could even do it by having a voucher if you wanted. You know here's a voucher for one dollar of tax I forewent, you take it and you can claim it against your taxable income.

JOURNALIST: Where did the problem arise? With the original One Nation statement or the 1994 amendments, because on recollection there weren't too many infrastructure bonds issued in the first couple of years . . .

TREASURER: No, when they were first introduced I don't think there were hardly any. And in 1994 the scheme was made more accessible and as I say down there, from 1994 to 1996 to activity was pretty moderate. Twelve projects certified, six applications on hand, borrowings of the order of $4 billion approved and $2.6 billion outstanding. Well then in July and August it just goes ...

JOURNALIST: Why do you think that was?

TREASURER:Well I think that there was an awareness of the benefits and I think that people were trying to beat the Budget axe that's right.

JOURNALIST: With such a rush of applications for these projects, is there any chance that that lead to a distortion of investment forecasts? Obviously there's a lot of money tied up in some of these projects?

TREASURER: No, because we don't forecast off applications for infrastructure borrowings. As I say, this is a very complicated area but we're talking here about applications. Now some of those applications would never have gone ahead, even under this. Some will go ahead regardless of this, and then it will be argued that there's a third case. Some of those applications would go ahead immediately, some might not have gone ahead for a couple of years. You've got to assess all of these applications. Now what I'm telling you is the risks to the revenue. If all of them had gone ahead and if all had gone ahead in their current form over three years the revenue cost according to the DAA would be over $4 billion. But if they had gone ahead in more aggressive form it could have been substantially more.

- Now this is another power which the DAA is advised that it does not have. Once it certifies it is advised, it's legal advice is the scheme can be amended and retain the certification. Now the trouble is when some people who may be have pretty straight up and down schemes see others coming in that are generating these kind of tax benefits that they're not and a financier comes around to them and says well would you allow me to use your certificates for on-selling to generate better income tax deductions the obvious answer would be to say yes.

JOURNALIST: What is the exact number of projects that will finally get certificates or have got certificates or will finally get them.

TREASURER: Well the number that have been certified to date, around about the low, a bit over 20 I think.

JOURNALIST: Do you know how much that's worth to the Budget over 3 years?

TREASURER: The cost of that is already factored in to the forward estimates.

JOURNALIST: Will you be continuing with the annual cap on revenue costs?

TREASURER: No, because the scheme is being wound up.

JOURNALIST: So the existing projects will be able to ...

TREASURER: The existing projects are within, or near enough to the current cap which is in the forward estimates and built in across the forward estimates and will continue across the forward estimates with no effect on the Budget, or at least a minor effect on the Budget. But if these 71 additionals had come in we would have had to lift in the forward estimates of the order of billions.

JOURNALIST:I thought you'd only announced a limit for this coming financial year.

TREASURER: Yes, l closed any further applications for this financial year. They would then normally re-open on the first of July in the next financial year but I hope to have in place by that stage legislation which will prevent any new applications and any new certifications.

JOURNALIST: But you're pretty confident that the revenue costs of the ones that have got through will be still around the sort of $200 million.

TREASURER: That's right, yes. Yes.

JOURNALIST: .. you said that under the existing law a scheme that's already been certified can be amended without you doing anything

TREASURER: That's right.

JOURNALIST: Is your legislation going to address that?

TREASURER: Yes, that is what is meant by, on page 2, the third point. The legislation will prevent re-engineering of existing certificates to incorporate more tax aggressive features.

JOURNALIST: ... tempted to re-finance it.

TREASURER:Well you might not be re-tempted but somebody might come along to you and say for a certain sum they would buy the rights to do it effectively and if that were to happen then it could be re- engineered in a much more tax aggressive way. But I want to re-emphasise that in respect of existing certificates, nothing will change, they are going to go ahead in exactly the same form, it's. We are only talking here about applications which have not been certified and therefore cannot be used and at the moment have tax advantages of this dimension.

JOURNALIST: What characteristics do you want to keep in the re-worked scheme that you're going to look at in the Budget.

TREASURER: Well, it's got to have a symmetry between the tax foregone and the tax benefit passed on. That's the essential thing, and preferably one for one.

JOURNALIST: Incentives for investment and you know for going ahead with infrastructure projects, what kind of conditions are you going to look at there and will you keep a cap on a new scheme.

TREASURER:Well they'll certainly be done in a way which will not allow any revenue blow-out and they most certainly will be done in a way which gets as close to one for one as is commercially viable. And that's because infrastructure is good, we want to encourage infrastructure. Investment is good, we want to encourage investment. But the taxpayer is entitled to know that the tax support which is going in to these things is fair to them and the tax support which is going into a scheme like this is wasteful from the revenue point of view.

JOURNALIST: What did this experience say about the institutions involved in promoting this scheme and do you see a role for you as Treasurer to sort of de-stem the financial sector to raise ethical standards.

TREASURER: Well I'd never use that phrase because l think somebody else used that phrase in very unhappy circumstances.

JOURNALIST: Can you just give your reaction on the National Australia Bank?

TREASURER: Can I just say, look, the point about this, and you'll see the legal opinions and I want to keep stressing not every IB scheme is like what I've described today. There are a lot of IB schemes which are straight up and down in accordance with the spirit and the letter of the law and you know they are people trying to do the right thing and they're getting good investment infrastructure. I want to stress that point. But what it shows you is that if you do give these openings there are other people who are very clever at engineering to take advantage of them and if you want to help and protect battling taxpayers you've got to always be alert and I think this Government has a very good track record on this. You know we took a very bold but the right decision in relation to RD, we're decisively dealing with this, we are looking very carefully at other techniques. Now I want to stress why are we doing all of this, we're doing all of this because if the revenue foregone is in the billions or more, somebody has got to make it up and if it's made up by battling taxpayers they just pay more and it's not fair that it be made up on the outlays side with battling allowance receivers? You know this is a question of the Government I think looking after the interests of the battling taxpayer and the person who's honestly receiving entitlements which they're entitled to receive. And you know I pledge to those taxpayers we're going to do what is required to do the right thing by them, and they deserve it.

JOURNALIST: Just to clarify one point about the forward estimates. Is the money that's already set aside in the forward estimates for this scheme, which would have been budgeted for on the assumption that the scheme proceeded normally, are they taken as a given or would you look at paring that back.

TREASURER:No, they're taken as a given. We think that the money that's set aside in the forward estimates is of the order which will be required to fund the existing certified schemes.

JOURNALIST: Do you think there'll be any problems getting this through the Senate, with the other parties about it?

TREASURER: Well l think that, from what I've heard from the Australian Democrats, that they would be supportive of this approach and I would think for the Australian Labor Party they know what the right decision is here, they really do. And I'll be very interested to see what position they take. I would prefer them to take the right position. I don't think this is the kind of issue where they should run around with this little trick that we're in favour of the principle we're just against the technicalities which seems to be their trick in relation to other expensive tax revenue schemes. l won't say anything about them today. I'll just give them the benefit of the doubt for the moment. We'll see what they say. We'll see what they say.

JOURNALIST: Just your reaction on the National Australia Bank.

TREASURER:I don't want to at this time politicise it but if they try and play tricks I may have a bit more to say about that.

JOURNALIST:The National Australia Bank cutting its interest rate to match the Commonwealth Bank this morning. Do you see there's more room for bank margins to be squeezed any further?

TREASURER: Well look l think as you know, I've been arguing for some time that margins should come down in Australia, and historically margins in respect of home mortgages were very high by international standards. Now we've seen a squeeze on the margin of about three-quarters of a percent last year. We've seen another squeeze in the last week. These are very welcome squeezes and I congratulate the National Australia Bank for following suit and you know I throw out the challenge to all the other banks - see what you can do. There's the competitive challenge. But the thing you should also bear in mind is it was the mortgage originators, the new entrant into the market, that kicked this off. And that's why I've particularly welcomed the activities of Aussie Home Loans to try and kick off a similar squeeze in relation to business lending.

I think it's important for people to bear this in mind, this is a concrete example of the benefits of competition, this. That's what's driven this. In this case the competition from a new entrant. A lot of people will say to you, oh we never see any return from competition. Concrete example. And you know, in March of last year you were paying I think ten and a quarter, ten and a half. You can pay seven and a half now and there's only been a cut of 1.5 percentage points in official rates.

JOURNALIST: Are you concerned that if the major banks with lots of power and strong balance sheets, continue to cut their rates, they could actually undercut the mortgage originators, and could, you know, put them out of business, and then raise their rates again?

TREASURER: I just make the point that there are strengths and weaknesses aren't there. What have the major banks got? The major banks have got a big capital backing. What have the mortgage originators got? They've got a low cost structure. And what you're seeing is this sort of delightful interplay of competitive forces and if it works out for the benefit of the consumer, that's who we're interested in. I think I've made the point before - we don't want to see interest rate reductions for the benefit of banks. What we're interested in is the benefit of consumers. Thanks very much

JOURNALIST: Do you think there is a ---with the banks going so far in an area where they are exposed to competition, that that will make them dig there heels in more in the area of business loans, where -

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TREASURER: Don't think so and l don't think they'll be able to do it if the competition moves to business loans as well. And that's why I very much welcome the new competition in business loans. Thanks very much.