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Offshore Petroleum Amendment (Miscellaneous Measures) Bill 2007 Tax Laws Amendment (2007 Measures No. 5) Bill 2007 Trade Practices Amendment (Small Business Protection) Bill 2007

CHAIR —Welcome. I do not know whether, before we have questions, you want to make any opening comments or you want to address some of the matters that have been raised over the last couple of hours. To a certain extent I am in your hands.

Mr Flavel —Chair, we would be happy just to take questions. We have listened to all of the discussion so far, and obviously there has been some quite fruitful discussion. It may be more useful if you were to open it up to questions.

CHAIR —Okay, Mr Flavel. We will have questions.

Senator HURLEY —Could I get right to the heart of it and ask about the possible compromises. It is suggested by some of the independent operators that if the broadcasters are to be eased out in some way, one way—the first way they mentioned—would be that the producer offset only apply to that part of their production which is greater than the mandatory requirement. Secondly, I think their suggestion was that there would be no tax deduction where there was an offset or no offset where there was a tax deduction. Could you comment on those two possibilities, please.

Mr Cameron —Yes. With your indulgence I might give a few contextual comments, about some of the support measures that exist and the impact of the rebate, and then go to those specific compromise measures. As a general point I think it is worth noting that there are already a number of mechanisms by which the government supports the independent production sector in specific ways. One of those was discussed in a little bit of detail earlier today by the free-to-air broadcasters, which is the fact that the quota points system which is administered by the Australian Communications and Media Authority for commercial television broadcasters incorporates different points levels for independent, as opposed to in-house, productions, thus making it more attractive to broadcasters to engage in independent production in order to meet their quota.

In addition to that, the Australian Broadcasting Corporation and SBS, which are not themselves subject to any particular regulated Australian content rules, do receive funding from the government which is specifically provided for the purposes of developing independently produced drama and documentary programming. SBS Independent gets $10 million a year and the Australian Broadcasting Corporation receives a similar amount of money which is devoted to independent production.

The pay television drama channels are obliged to spend an amount equivalent to 10 per cent of their revenue on new Australian drama programming on an annual basis, although there are some rolling arrangements to take into account the variation over time. With the pay television broadcasting arrangements, there aren’t any specific measures to promote independent production there. But, as a general rule, pay television channels have limited in-house production capability.

In relation to the broadcasting operators, depending on the type of operator, they have either regulatory or funding arrangements which encourage them to maintain a level of production which is independently sourced. In addition, I think it was mentioned earlier by Mr Harris that a number of the state and Commonwealth film agencies have funding guidelines which indicate that they will not co-invest in projects which are in-house produced. The FFC is a particular example of that. We would expect that those arrangements would move into the new environment and sit alongside the producer offset. For example, where an independent production was in receipt of the rebate but acquired additional funding to go ahead, the producers would be able to seek co-investment by the new merged screen agency in the future; whereas broadcasters of in-house productions, while they may be able to access the rebate, would not have available to them that additional source of financing. I think, again, that provides the mechanism for independent productions to gain a level of subsidy over and above that available for in-house productions.

More generally, I think it is also worth noting that the producer offset mechanism is designed to promote a range of outcomes, one of which is an expansion in the level of Australian production activity. The second is that, by creating a mechanism which provides a certain and clear source of government support, it provides a mechanism by which producers are able to go to the market and source increased levels of private investment with the hope that the end product of their productions is more clearly focused on audience interests and audience outcomes via the marketplace. Finally, as a number of people have mentioned, it is designed to enable independent producers, in particular, to take advantage of the capacity to retain a level of equity where they are able to do so and where they can negotiate in the context of a broader financing arrangement.

In relation to the two compromises that have been suggested by the Screen Producers Association and some other submitters, I think the key consideration there—and, again it was mentioned by Mr Harris—is that there is some concern that broadcasters should not be able to meet their quotas via productions that have received a level of subsidy. I think it is worth noting that broadcasters have historically met their quotas via productions that have received, either directly or indirectly, a level of subsidy from the government via the 10B or 10BA tax measures that are to be replaced by this producer offset, although it is noteworthy that, more generally, they have not been highly used by any sectors of the production sector.

Productions have also been in receipt of direct financing from the Film Finance Corporation or the other Australian film agencies and often from state film agencies. So we already have a situation where programs that are produced in order to meet the Australian broadcast quotas are in receipt of a level of subsidy. Arguably, a compromise arrangement that broadcasters should not be able to receive the produced offset for in-house productions until they have met that quota would not actually change that situation because, to the extent that independently produced programs are made to meet that quota, they will still be in receipt of the rebate and potentially in receipt of direct financing from the screen agency. So there would still be a level of ongoing subsidy for programs produced which are used by broadcasters to meet their quota.

There are some practical implementation issues that I think are worth noting in relation to putting in place that compromise mechanism that is proposed. One is that the compromise mechanism appears to be focused specifically on the commercial free-to-air broadcasters. I mentioned before that the national broadcasters have no specific regulatory obligations in relation to Australian content, and the pay TV broadcasters have a different set of obligations, which are based on their spend on new production. This compromise mechanism appears to be directed specifically at the commercial free-to-air broadcasters. The commercial free-to-air broadcaster quota arrangement counts points for programs when they are broadcast, and often that will be a significant period of time after they have been produced. In fact, those points systems are based on both annual and three-yearly calculations of the points.

It seems to me that there is potential for quite a complex set of rules to be put in place to reconcile when a program, once it has been completed, has subsequently been used to meet the points system and—to the extent that that is a significant period after the program has been completed, and it would otherwise have been able to access the rebate—the cost of money, if I can use that term, of awaiting that points system. That would have a potentially substantial impact on the value of the offset, given that the broadcaster would have to wait for a period of time.

In relation to the second compromise, I wonder whether Mr Flavel from the Treasury has a comment in relation to the tax deductibility issue.

Mr Flavel —Yes. Regardless of the way in which it is done—and I think that the tax deductibility type arrangement is just a way of doing it—it does not negate the policy considerations, which Mr Cameron has outlined previously. I am not really sure I understand the intent. It seems to be suggesting that if something were not able to be deducted under the tax law then it would somehow be eligible for a rebate. That struck me as being a little strange, I must say, given that the tax law does not make any judgements other than whether an expense has been legitimately incurred in the pursuit of business.

CHAIR —Which compromise was that?

Senator HURLEY —They had two compromises and they both went to the double dipping thing—that big corporations, the broadcasters, could claim a tax deduction for their in-house production as expenses and also get the producer offset. They were saying that they should not be allowed to double dip in that way.

CHAIR —Thank you.

Mr Flavel —I think we have covered off on that one. On a technical note, they did mention deductible, and I think they mean deductible under the general deductibility provisions. I think they mentioned section 51, which is the old Income Tax Act. It is now section 8.1, which is about the general deductibility provision.

Senator HURLEY —I presume that in the case of the tax deductibility—the problem that Mr Cameron referred to of not knowing at the time of filling in the tax return whether that particular production was going to be used—the mandatory requirement would also come into play.

Mr Flavel —That would be right.

Senator HURLEY —And if it were so, you might have to have a retrospective tax claim going back three years.

Mr Flavel —Also, the producer offset requires the film or production to be completed before the amount of the offset can be paid. The general provisions in the income tax law work on a financial year or an income year basis. Even within an individual production, regardless of where it was used, you start to introduce a huge range of complexity. For instance, some things would ordinarily be deductible at the end of an income year but the production has not finished and, therefore, may or may not qualify for a tax offset, which may or may not be eligible depending on where that production is used. It seems to be introducing a massive layer of complexity and still leaves the policy considerations open in any case.

Senator HURLEY —Okay. I think it was Mr Richard Harris that encapsulated the intent of the new system by saying that a large part of it was to encourage the development of a production house or a production business as opposed to the old 10BA system, which was on a production-by-production basis. Would you agree with that synopsis of the way in which the subsidies are being used under the system we are looking at?

Mr Cameron —I think that broadly the answer is yes. The intent of the offset mechanism is to provide the capacity, subject to the producer’s wider financial negotiations and sourcing of money, to use that offset amount to effectively retain a level of equity in the production itself, and then, assuming the production is a commercially successful one, hopefully gather a source of income over time from the sale and other distribution of that program. In turn, this will hopefully enable them to engage in future activities and retain a high level of equity over time. Clearly that depends on producers being able to engage in a slate of productions, being able to manage those commercial arrangements and being able to develop a set of program ideas that gather private and other finance sources and which are commercially successful. In a sense, what it does is put the ball in the court of the producers. It provides them with a mechanism on which to build those capacities, but will place some expectation on their part that they can put the surrounding arrangements in place. I would make the point, however, that that is clearly one of the underlying policy objectives which sit behind this mechanism. But it is one of a number that I alluded to earlier, which also include a general expansion of production and a desire for or hope that these arrangements will result in a greater level of audience responsiveness from the production sector.

Senator HURLEY —Yes. In one sense, it does reinforce the point of the independent producers. The major broadcasters do not need assistance with setting up any kind of production house because they are all in place and they are required to have a certain level of production. I presume they want to be sensitive to audience movements. It seems to me, from hearing the evidence, that the biggest problem there is that it is very hard to define—and I think Senator Bernardi went into this—what an independent production house is. I presume that would give you some difficulty as well.

Mr Cameron —Commercial or television broadcasters have varying levels of in-house production capability. My understanding is that Channel 10, for example, has virtually no in-house production capability, nor does SBS. All of their drama programming is sourced from the independent sector. The ABC has reasonably extensive capability, but is increasingly—particularly with the recent funding initiatives from the government in relation to independent production that I alluded to before—focusing on independent production.

Channel 9 has undertaken a lower level of in-house production over recent times than it has historically, and Channel 7 retains a level of in-house production capability. I think Mr Harris alluded to some of the commercial factors which might represent a practical constraint on broadcasters from substantially changing their current business models even with the availability of this rebate, which, as I noted before, is replacing other mechanisms which, while they may not have been substantially used by the broadcasters, have been available to them and have been used on occasion.

You made a comment about the difficulties associated with defining ‘independent producers’. The Australian Communications and Media Authority have defined independent producers for the purposes of the distinction they make in the points system for their Australian production quota arrangements, and I think the proposal from SPAA is that these legislative arrangements adopt that definition. I would not like to comment in detail on those definitions. Obviously if they were to be implemented in law then we would need to look carefully at them. But I think the comments you were alluding to from Senator Bernardi do go to the fact that even where productions are made by independent producers, and particularly in television, for them to proceed they rely in almost all cases on what one might call an anchor client or an anchor customer being a broadcaster who, at the start, is prepared to put their money behind the production. That often is at the earliest stages of development, as was mentioned in relation to Sea Patrol. So, even where there is a strong independent production activity, the level of investment in development and making the program almost invariably depends on them having effectively presold the idea to a broadcaster.

Senator HURLEY —I guess that also goes to support the independent producers’ line, because they are concerned that if this legislation does facilitate the big houses bringing their production in house then they will be left without a market. I realise that is mostly a policy decision, but do you think there is anything in the way that the laws are set up that will mitigate that?

Mr Cameron —I would refer you to the background commentary I made at the start, which is that there are already a number of mechanisms the government has in place which either encourage or otherwise support independent production through the arrangements in the points system and through the funding for the national broadcasters. Also—and I think this is quite important—the film agencies do not have a practice of providing additional support for in-house productions but do so for independent productions. So in that sense there is almost invariably a higher level of subsidy available, and there will continue to be a higher level of subsidy available to independently produced programming versus in-house production. Those sorts of factors will impact and influence the willingness of broadcasters to bring production in house; to invest the associated money required—whether it be for capital or staffing and skill requirements—for that; and also to take on the inevitable risk involved in moving from acquiring a program for a broadcast licence fee which represents something less than 100 per cent of the cost of the program to making the bulk, if not the total, of the investment in that program and seeking to recover that from their commercial activities. There is a transfer of risk there that I presume would also be taken into account.

Senator MURRAY —Let’s have some short answers. I have two questions. Mr Flavel, I think you heard my discussion with Mr Burnett on the issue of animated series definitions. I do not quarrel with the policy; I just quarrel with the specificity because, as you might recall, they were suggesting that defining animated series in half-hour segments did not meet current practice. They were looking for a still defined definition of two 15-minute segments. I suggested that even that would not take into account how the future might evolve and that it might be better simply to have the policy laid down in tax law but the specifics laid down in regulation. What is your reaction to that issue?

Mr Flavel —A conundrum we face in any part of tax law or law generally is how much to have in the law versus the regulations. Interestingly, where regulations are used, there is often a criticism that it has been put into a subordinate instrument rather than into the legislation itself.

Senator MURRAY —You are obviously familiar with my role in the Scrutiny of Bills Committee.

Mr Flavel —Very much so. And I am reflecting on comments we have had on the opposite side of the argument over recent years. I want to make the comment that one of the objectives or the sub-objectives was to simplify the arrangements. Previously, there were the two tax acts—the 1936 act and the 1997 act. Film assistance was provided for in relation to international productions in the 1997 act and in relation to divisions 10B and 10BA in the 1936 act. As part of this exercise we have now got everything in the one place, which provides some simplicity. In conjunction with that, the law lays out very clearly all the rules for eligibility. We would regard it as being some sort of premium for certainty that the offset is something that occurs after the event—that is, you incur the expenditure; you make the eligible production; you submit your tax return; and you get either 20 per cent or 40 per cent, depending on what sort of production. We see quite a strong benefit in having as much as possible clearly laid out in the legislation—in the one place, so to speak.

Senator MURRAY —I am happy to accept that. The problem is that the practitioners say that your proposed definition does not fit the current practice and, therefore, negates the intention of the tax concession. The question to you is: is there a better way to design the legislation both to meet your objectives, which are valid and good, and their needs, which are to have a practical, flexible definition that accounts for the way in which they develop their material?

Mr Flavel —There are two issues here. Firstly, are the thresholds and the criteria as spelt out in the bill appropriate? That is one issue that has been raised this morning. Secondly, there is the related question: to what extent will they remain appropriate through time? Again, because of the desire for certainty, we consider that it is better that, if there is a need to adjust those to reflect changes in policy—it is not so much the industry practice but the policy intent and the policy consistency—then nothing precludes a legislative amendment being made to reflect those.

Senator MURRAY —I cannot ask you on behalf of the committee until such time as we report—and the committee may or may not agree with me—so I ask you on my behalf to go away and think about this issue. I have no quarrels with your intent or your overall policy. I just think the execution leaves something to be desired. My request is for you to go away and think about it.

Mr Flavel —Obviously I will do that. One issue would be: what things would remain in the legislation itself versus regulation? It is a division that lays out a whole range of eligibility criteria. For instance, a threshold for short film animation is one aspect, but there are a range of eligibility criteria there and that raises the threshold issue of how much should be in the law more generally versus how much should be left to regulation.

Senator MURRAY —I do not mind much if you decide that you just want to change the black-letter law. The problem is that black-letter law as it is expressed does not meet industry practice and it will negate your policy intention if the evidence of witnesses is accurate. That is why I ask you to have a look at it from that perspective.

I will now move to my second question. The witness who appeared before us in camera allowed for a specific element of their in-camera evidence to be put to you on the record. They said that the way in which the legislation is presently expressed makes it difficult for them to capitalise on the tax concession because they conduct a cash accounting method instead of an accrual accounting method, and their contractual constructions are difficult. So they asked that, with respect to the items in the explanatory memorandum, paragraph 10.231 should be drafted as follows: ‘Before 1 July 2007 to the extent that such expenditure is paid after 1 July 2007’.

It is not my intention to try and recap their evidence, because I do not think that is proper. I will merely put it to you baldly as I have and ask whether you could take it on notice and let the committee know your view.

Mr Flavel —I will, but could I just make one comment in relation to that issue. The bill as it currently stands provides that the offset is paid on economic activity broadly defined, which occurs after 1 July 2007. Without wanting to go into great detail, you could think about arrangements where, for example, a film is already in production and the bulk of the costs were to be paid in a cash sense after 1 July 2007 or, alternatively, where commitments or liabilities had been entered into before that date—in other words, accrued or, on a tax law basis, incurred. I think the legislation strikes a reasonable middle ground between those two extremes and says that, as long as the economic activity has occurred after 1 July 2007, that amount should be eligible for the tax offset.

Senator MURRAY —The difficulty is that there is a major film which is widely supported by all political parties, but the government, particularly in this case, is affected by this and that is why this matter is put to you on notice.

CHAIR —I have one question, which I think I floated earlier on in relation to some evidence given by Ms Houston. It came out in camera in relation to the real economic cost question. Her view, as stated in her submission, is that this matter ‘would be effectively resolved by including a provision in division 376 that for the purpose of calculating the amount of qualifying production expenditure for film production offset services only that the production company’s membership of a consolidated group may be ignored’. I asked Ms Houston whether that would potentially have wider implications if that were adopted outside the particular aspect that we are talking about at the moment. Have you a view on that, Mr Flavel?

Mr Flavel —Yes. We consider that it would have some precedent effects. In effect, when something goes into a low-value pool—that is, less than $1,000—it loses its character and the pool itself at an aggregate level is written off. The argument that is being put is that assets should be able to be pulled out of that pool so that any decline in value or balancing adjustment should be recognised for the purposes of the producer offset. It seems to go against the grain of the reductions in compliance costs that are associated with having low-value pools to in effect be putting something but then maintaining a separate record for it for the purposes of an offset.

The other comment I make is that a balancing adjustment, in particular when an asset is disposed of, can go one of two ways. The balancing adjustment can be in your favour or it can be out of your favour, so to speak—for example, where you sell an asset for more than its written-down value. It is not clear to me that, under the suggested amendment, there would not be a bias or an implied incentive to only pull those assets out when they may be advantageous and not to pull them out when they might not be in your favour. That is more at the micro level, but at the macro level we do have some concerns about the perceived inconsistency between keeping separate records for these things and the intention of having low-value pools in the first place.

CHAIR —That is why I raised the question—I did have some concern about precedent and potential in relation in this matter.

Mr Flavel —Just for the record, I want to point out that we are talking about very low-value assets here, so the written-down value and then getting 20 or 40 per cent on that is—

CHAIR —That is you again, Mr Flavel, isn’t it?

Mr Flavel —Yes, it is. We are talking about very small amounts, probably no more, for argument’s sake, than $100 or $200. Again, that raises issues of administrative costs. It is not just the costs to the taxpayer, of course; there has to be a determination of qualifying expenditure made. So it creates compliance cost at the government end as well, and I do wonder whether the benefits, given the small amounts involved, outweigh some of those costs.

CHAIR —So I put it to you that there are some real risks in making an assumption that this can be confined to section 376-125—that there is the potential for a precedent being created outside those sections.

Mr Flavel —Yes, either directly or indirectly.

CHAIR —Thank you.

Senator WEBBER —Whilst I do not want to go into the detail again of whether or not some of the adverse impacts may or may not take place, can you advise whether this particular section of this bill is the end of a review process or whether this is just the beginning of reform and review and we will keep examining it, particularly in light of some of the evidence we have had about the impact it may have on the independent producers?

Mr Cameron —In effect, the answer to that is ‘both’. This set of amendments is the outcome of a comprehensive review of the film support arrangements, which was conducted last year and was considered by government, and the outcome of that process was announced in the budget context. So, in that sense, it is the end of a significant review exercise. Since the budget announcement, the government has been consulting with industry stakeholders in relation to these matters, and the issues that have been the subject of quite a bit of discussion today have also been the subject of many discussions with government.

A few weeks ago, the minister announced some adjustments to the thresholds and other arrangements following on from that consultation process. At that time he noted that the government would continue to keep an eye on the operation of the scheme and, in particular, on whether there was any evidence that broadcasters or other distributors were misusing the arrangements in a way that was inconsistent with the government’s underlying policy intention. He flagged a preparedness to act if there was any evidence of that occurring. So I think it is fair to say that obviously the government will continue to review how the new scheme operates. If it were not operating in a way that is consistent with the original intention, clearly it would be open for the government to act.

CHAIR —Thank you most sincerely, gentlemen. That finishes our discussion on schedule 10.

Proceedings suspended from 3.11 pm to 3.24 pm