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Treasury Laws Amendment (Tax Integrity and Other Measures) Bill 2018

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2016-2017-2018

 

THE PARLIAMENT OF THE COMMONWEALTH OF AUSTRALIA

 

 

 

HOUSE OF REPRESENTATIVES

 

 

 

Treasury Laws Amendment (Tax Integrity and Other Measures) Bill 2018

 

 

 

 

EXPLANATORY MEMORANDUM

 

 

 

(Circulated by authority of the

Treasurer, the Hon Scott Morrison MP)

 

 



Table of contents

Glossary............................................................................................................. 1

General outline and financial impact........................................................... 3

Chapter 1 ........... Toughening the multinational anti-avoidance law....... 7

Chapter 2 ........... Improving the integrity of the small business CGT concessions   13

Chapter 3 ........... Fintech and venture capital amendments................... 25

Chapter 4 ........... Tax exemption for payments made under the Defence Force Ombudsman Scheme.............................................................................. 35

Chapter 5 ........... Statement of Compatibility with Human Rights.......... 39

 

 



The following abbreviations and acronyms are used throughout this explanatory memorandum.

Abbreviation

Definition

Bill

Treasury Laws Amendment (Tax Integrity and Other Measures) Bill 2018

CGT

capital gains tax

ESVCLP

Early stage venture capital partnership

Fintech

Financial technology

ITAA 1936

Income Tax Assessment Act 1936

ITAA 1997

Income Tax Assessment Act 1997

VCLP

Venture capital limited partnership

 

 



Schedule 1 - Toughening the multinational anti-avoidance law

Schedule 1 to this Bill amends the ITAA 1936 to ensure that the multinational anti-avoidance law applies appropriately to artificial or contrived arrangements involving trusts and partnerships entered into by multinational entities to avoid the taxation of business profits in Australia.

Date of effect This measure applies on or after 1 January 2016 in connection with a scheme, whether or not the scheme was entered into, or was commenced to be carried out, before that day.

However, the measure does not apply in relation to tax benefits that a taxpayer derives before 1 January 2016.

This is consistent with the date from which the multinational anti-avoidance law applied.

Proposal announced This Schedule implements the measure ‘Tax Integrity Package — toughening the multinational anti-avoidance law’ announced in the 2017-18 Budget.

Financial impact The measure is estimated to result in an unquantifiable gain to revenue over the forward estimates period, comprising:

2016-17

2017-18

2018-19

2019-20

2020-21

*

*

*

*

*

* Unquantifiable

Human rights implications :  This Schedule does not raise any human rights issues. See Statement of Compatibility with Human Rights — in Chapter 5, paragraphs 5.1 to 5.4.

Compliance cost impact The compliance cost impact of this measure is low - it only affects taxpayers engaged in multinational tax avoidance schemes.

Schedule 2 - Improving the integrity of the small business CGT concessions

Schedule 2 to the Bill amends the ITAA 1997 to include additional conditions that must be satisfied to apply the small business CGT concessions to capital gains. The new conditions ensure that the small business CGT concessions in Division 152 of the ITAA 1997 are only available for CGT assets that are either used or held ready for use in the course of a small business or are an interest in a small business.

Date of effect The amendments apply to CGT events that occur on or after 1 July 2017.

Proposal announced These amendments implement the measure announced in the 2017-18 Budget as ‘Tax Integrity Package - improving the small business capital gains tax concessions’.

Financial impact This measure is estimated to have an unquantifiable gain to revenue over the forward estimates period comprising:

2016-17

2017-18

2018-19

2019-20

2020-21

-

-

*

*

*

- Nil

* Unquantifiable

Human rights implications :  This Schedule does not raise any human rights issues. See Statement of Compatibility with Human Rights — in Chapter 5, paragraphs 5.5 to 5.8.

Compliance cost impact This measure is expected to have minimal regulatory impact.

Schedule 3 - Fintech and venture capital amendments

Schedule 3 to the Bill amends the income tax law and the Venture Capital Act 2002 to ensure that the venture capital tax concessions are available for investments in fintech businesses.

Date of effect These amendments apply in relation to investments made on or after 1 July 2018.

Proposal announced This Schedule partially implements the measure “National Innovation and Science Agenda — expanding the new arrangements for venture capital limited partnerships” from the 2016-17 Budget.

Financial impact The 2016-17 Budget measure “National Innovation and Science Agenda — expanding the new arrangements for venture capital limited partnerships” is estimated to have an unquantifiable cost to revenue over the forward estimates period. This Schedule implements part of this announced measure.

Human rights implications :  This Schedule does not raise any human rights issues. See Statement of Compatibility with Human Rights — in Chapter 5, paragraphs 5.9 to 5.12.

Compliance cost impact These measures are expected to result in a small overall compliance cost impact, comprising a small implementation impact and a small increase in ongoing costs.

Schedule 4 - Tax exemption for payments made under the Defence Force Ombudsman Scheme

Schedule 4 to this Bill amends the ITAA 1997 to exempt from income tax, payments received from the Commonwealth as reparation for abuse by Australian Defence Force personnel.

Date of effect This measure applies to the 2017-18 income year and later income years.

Proposal announced :   This Schedule implements the tax consequences from the 2017-18 Budget of the Defence Force Ombudsman - continuation and expansion measure.

Financial impact :   Nil.

Human rights implications :  This Schedule does not raise any human rights issue. See Statement of Compatibility with Human Rights — in Chapter 5, paragraphs 5.13 to 5.16.

Compliance cost impact :   Nil.

 



Outline of chapter

1.1                   Schedule 1 to this Bill amends the ITAA 1936 to ensure that the multinational anti-avoidance law applies to artificial or contrived arrangements involving trusts and partnerships entered into by multinational entities to avoid the taxation of business profits in Australia.

1.2                   All legislative references in this Chapter are references to the ITAA 1936 unless the contrary is specified.

Context of amendments

Operation of existing law

1.3                   Schedule 2 to the Tax Laws Amendment (Combating Multinational Tax Avoidance) Act 2015 amended the ITAA 1936 to introduce the multinational anti-avoidance law.

1.4                   The multinational anti-avoidance law can result in the general anti-avoidance rules in Part IVA of the ITAA 1936 applying to schemes in which:

•        a foreign entity that is a ‘significant global entity’ derives income from making supplies to Australian customers with the support of an Australian resident entity or an Australian permanent establishment of an entity that is either associated with or commercially dependent on the foreign entity; and

•        some or all of the income is not attributable to a permanent establishment in Australia.

1.5                   A ‘significant global entity’ is, broadly, an entity that either has annual global income of $1 billion or more or is part of a group of entities that are consolidated for accounting purposes and have annual global income of $1 billion or more.

1.6                   Consistent with the general framework of Part IVA, for the multinational anti-avoidance law to result in Part IVA applying to a scheme, at least one of the taxpayers involved in entering into or carrying out the scheme must have done so with a principal purpose of obtaining a tax benefit (or both a tax benefit and a reduction in foreign tax liabilities) for a taxpayer or taxpayers.

1.7                   Where the multinational anti-avoidance law applies to a scheme, the Commissioner of Taxation has the power to make a determination under Part IVA and apply the tax law in such a way as to undo any tax benefit, including, for example, by treating the foreign entity as if it had been making the relevant supplies through an Australian permanent establishment.

1.8                   The quantum of the tax benefit obtained under the scheme will depend on the facts and circumstances of the case. However, it is likely to include the amount of the ordinary and statutory income from the supply that would have been attributable to an Australian permanent establishment of the foreign entity, subject to any compensating adjustments allowing for deductions.

1.9                   The quantum of the tax benefit obtained also takes into account obligations arising (for the relevant taxpayer or another taxpayer) under Australia’s withholding tax rules.

Budget announcement

1.10               In the 2017-18 Budget, the Government announced amendments to the multinational anti-avoidance law as part of a package of measures to improve the integrity of the tax system.

1.11               The announced amendments are intended to address concerns that entities can avoid the multinational anti-avoidance law applying to a scheme by interposing a trust or partnership. If the interposed entity makes the supply and receives the income before distributing it back to the foreign entity, the multinational anti-avoidance law may not have applied to the scheme prior to the amendments made by this Schedule.

Summary of new law

1.12               Schedule 1 amends the ITAA 1936 to provide that, when determining if the multinational anti-avoidance law applies to a scheme, supplies made and income received by a closely related trust or partnership are treated as being made or received by the foreign entity.

Comparison of key features of new law and current law

New law

Current law

Special rules apply to determine if a foreign entity satisfies the conditions for the multinational anti-avoidance law to apply where supplies are made by a trust or partnership. Supplies made by a trust or partnership to Australian customers and income received from these supplies are treated as being made or received by a foreign entity if the trust or partnership satisfies certain conditions. The trust or partnership satisfies these conditions if it:

•        has at least one foreign entity participant (broadly, a potential ultimate recipient of income of the trust or partnership that is a foreign entity); and

•        at the time the supply is made:

-       is connected with the foreign entity; or

-       would be an affiliate of the foreign entity if the trust or partnership was an individual or a company; or

-       is part of a global group that also includes the foreign entity.

The supplies and income of Australian entities controlled by foreign entities are generally not relevant when determining if a foreign entity has made supplies or received income for the purposes of applying the multinational anti-avoidance law.

Detailed explanation of new law

1.13               Schedule 1 amends the ITAA 1936 to extend the circumstances in which the multinational anti-avoidance law in section 177DA results in the general anti-avoidance rules in Part IVA applying to a scheme.

1.14               As a result of the amendment, when determining if the conditions for the multinational anti-avoidance law to apply to a scheme in subsection 177DA(1) are satisfied:

•        supplies made by a trust or partnership to an Australian customer can be treated as being made by a foreign entity to the customer; and

•        income derived by a trust or partnership can be treated as being derived by the foreign entity.

[Schedule 1, item 2, subsection 177DA(8)]

1.15               Previously, there were questions about whether the multinational anti-avoidance law would apply if a foreign entity restructured so that its supplies to Australian customers were made through an Australian trust or partnership. This amendment ensures that the application of the multinational anti-avoidance law cannot be avoided by interposing an Australian trust or partnership between the foreign entity and its Australian customers.

Conditions

1.16               In order for this extension to apply, the trust or partnership must have:

•        a relationship with a foreign entity that means they are not independent of that entity at the time they make the relevant supply or supplies to their Australian customer; and

•        a foreign entity participant (see paragraphs 1.23 to 1.29) at any time in an income year in which income is derived from the supply.

[Schedule 1, item 2, paragraph 177DA(7)(c) and (d)]

1.17               The trust or partnership must also make at least one supply in a year of income to an Australian customer that results in income being derived by the trust or partnership. This condition ensures that the extension only applies if it would be relevant. It does not matter whether the income from the supply is derived in a different year of income to the year in which the supply is made. [Schedule 1, item 2, paragraphs 177DA(7)(a) to (b)]

Lack of independence

1.18               There are three forms of control and mutual dependence that result in a trust or partnership lacking independence at the time the supply is made and therefore satisfying the condition for this extension of the multinational anti-avoidance law to apply.

1.19               One such circumstance is that the trust or partnership is ‘connected with’ the foreign entity within the meaning of section 328-125 of the ITAA 1997. Two entities are connected with each other if one entity controls the other or both entities are controlled by a third party. In this context, controlling an entity generally means being entitled to at least 40 per cent of any income distribution, capital distribution or voting rights of the entity. [Schedule 1, item 2, subparagraph 177DA(7)(d)(i)]

1.20               Another such circumstance is where the trust or partnership would be an affiliate of the foreign entity within the meaning of section 328-130 of the ITAA 1997 if the trust or partnership were an individual or a company. This means that the trust or partnership would be expected to act at the direction of or in concert with the foreign entity when carrying on its business. [Schedule 1, item 2, subparagraph 177DA(7)(d)(ii)]

1.21               The final circumstance is that the trust or partnership and the foreign entity are both members of a global group within the meaning of Part IVA (i.e. a group of entities consolidated for accounting purposes). [Schedule 1, item 2, subparagraph 177DA(7)(d)(iii)]

1.22               In all of these cases, the trust or partnership and the foreign entity have a sufficiently close relationship that it is reasonable to expect that they may not be acting independently.

Foreign entity participant

1.23               The second requirement for the extension to apply is that the trust or partnership has a foreign entity participant during an income year in which income is derived from the supply, which can occur in two circumstances. [Schedule 1, items 1 and 2, the definition of foreign entity participant in subsection 177A(1) and paragraph 177DA(7)(c)]  

1.24               The first circumstance is that a beneficiary of the trust or partner of the partnership during the income year is a foreign entity (within the meaning of the ITAA 1997). [Schedule 1, item 1, paragraph (a) of definition of foreign entity participant in subsection 177A(1)]  

1.25               The second circumstance is that a beneficiary of the trust or partner of the partnership has a foreign entity participant during the income year. In working out if this circumstance arises, an entity that has a foreign entity participant as a result of the rule is itself a foreign entity participant when working out if other entities have a foreign entity participant. [Schedule 1, item 1, paragraph (b) of definition of foreign entity participant in subsection 177A(1)]  

1.26               For example, if Trust A is a member of Partnership B, which is a member of Trust C, then if Trust A has a foreign entity participant this results in Partnership B and Trust C also having a foreign entity participant.

1.27               It should be noted that a foreign entity participant in a trust or partnership does not need to be the same entity as the foreign entity from which the trust or partnership is not independent - they can be separate entities.

1.28               Effectively, a trust or partnership has a foreign entity participant if some or all of its income could be distributed offshore to an entity that is a non-resident.

1.29               If an entity has both a foreign entity participant and lacks independence there is a real risk that the trust or partnership can be used to transfer income offshore without being subject to the multinational anti-avoidance law.

1.30               These amendments address this risk by ensuring that, for the purposes of satisfying the conditions of the multinational anti-avoidance law, the supplies and income of such a trust or partnership are attributable to the closely related foreign entity. [Schedule 1, item 2, subsection 177DA(8)]  

1.31               Even if these amendments result in the supplies and income of a trust or partnership being treated as the supplies and income of a foreign entity under the multinational anti-avoidance law, this does not necessarily mean the general anti-avoidance rules apply. This is because this extension applies only for the purpose of determining if the conditions in subsection 177DA(1) are satisfied. It has no effect on the operation of the taxation law for other purposes, including when determining if a tax benefit arises for the purposes of the other subsections in section 177DA and Part IVA generally.

1.32               It is still necessary to determine that all of the other conditions are met, including (broadly) that an entity has carried out a scheme for the principal purpose of obtaining a tax benefit.

Application and transitional provisions

1.33               The amendments made by Schedule 1 commence on the first day of the first quarter to start following the day this Bill receives Royal Assent. [Clause 2]

1.34               The amendment made by Schedule 1 apply from the original application date of the multinational anti-avoidance law - on or after 1 January 2016 in connection with a scheme, whether or not the scheme was entered into or had begun to be carried out before that day. [Schedule 1, item 3]

1.35               This retrospective application is necessary as the measure is an integrity measure designed to ensure that a key anti-avoidance provision operates as intended.

1.36               Not making the amendment apply retrospectively could reward entities that have engaged in deliberate tax avoidance and incentivise further attempts to undermine the Australian tax system.



Outline of chapter

2.1                   Schedule 2 to the Bill amends the ITAA 1997 to include additional conditions that must be satisfied to apply the small business CGT concessions to capital gains. The new conditions ensure that the small business CGT concessions in Division 152 of the ITAA 1997 are only available for CGT assets that are either used or held ready for use in the course of a small business or are an interest in a small business.

2.2                   All legislative references in this Chapter are to the ITAA 1997 unless the contrary is indicated.

Context of amendments

Operation of existing law

2.3                   Division 152 provides four concessions that can permit small businesses or, in some cases, their owners to reduce, defer or disregard certain capital gains.

2.4                   These four CGT concessions are:

•        the 15-year exemption (Subdivision 152-B);

•        the 50 per cent asset reduction (Subdivision 152-C);

•        the retirement exemption (Subdivision 152-D); and

•        the replacement asset rollover (Subdivision 152-E).

2.5                   Section 152-10 sets out the basic conditions that all taxpayers must satisfy in relation to a CGT event before they can be entitled to these concessions in relation to any resulting capital gain. To satisfy these conditions:

•        the taxpayer must:

-       be a CGT small business entity for the income year (broadly, an entity that carries on a business and has an aggregated turnover of less than $2 million) (see subparagraph 152-10(1)(c)(i));

-       if the asset is an interest in an asset of a partnership that is a CGT small business entity for the income year — be a partner in that partnership (see subparagraph 152-10(1)(c)(iii));

-       if the taxpayer does not carry on a business in the income year (other than in a partnership) and the asset is not an interest in an asset of such a partnership — be affiliated, connected with or a partner in an entity that is both a CGT small business entity and carries on the business in which the asset is an active asset (see subparagraph 152-10(1)(c)(iv)); or

-       not have CGT assets (including the CGT assets of related entities) with a net value exceeding $6 million (the maximum net asset value test - see section 152-15) (see subparagraph 152-10(1)(c)(ii)), and

•        the asset must satisfy the active asset test (see sections 152-35 and 152-40).

2.6                   Additional basic conditions apply if the asset is a share in a company or an interest in a trust (the object entity). In this situation, subsection 152-10(2) provides that the concessions are only available for a taxpayer if:

•        the taxpayer is a CGT concession stakeholder in the object entity (i.e. broadly the taxpayer or their spouse holds an interest entitling them to at least 20 per cent of the voting rights, capital distributions and income distributions of the object entity); or

•        at least 90 per cent of the interests in the object entity have been held by entities that are CGT concession stakeholders in the taxpayer.

CGT small business entities

2.7                   CGT small business entity is a more recently introduced concept that is defined in subsection 152-10(1AA). Broadly, it limits access to the CGT small business concessions to small business entities with aggregated turnover in an income year that does not exceed the previous small business turnover threshold of $2 million, rather than the new threshold of $10 million.

2.8                   Small business entity is defined in section 328-110. Broadly, an entity is a small business entity for an income year if the entity carries on business in the income year and either:

•        carried on business in the previous income year with aggregated turnover not exceeding $10 million; or

•        is likely to have aggregated turnover for the current income year not exceeding $10 million.

Budget announcement

2.9                   In the 2017-18 Budget the Government announced it would amend the small business CGT concessions to ensure that the concessions can only be accessed in relation to assets used in a small business or interests in a small business, with effect from 1 July 2017.

Summary of new law

2.10               The amendments include additional basic conditions that must be satisfied for a taxpayer to apply the CGT small business concessions to a capital gain arising in relation to a share in a company or an interest in a trust (the object entity).

2.11               Broadly, the conditions require that:

•        if the taxpayer does not satisfy the maximum net asset value test, then they must have carried on a business just before the CGT event;

•        the object entity must either be a CGT small business entity or satisfy the maximum net asset value test (applying a modified rule about when entities are ‘connected with’ other entities), and

•        the share or interest must satisfy a modified active asset test that looks through shares in companies and interests in trusts to the activities and assets of the underlying entities.

Comparison of key features of new law and current law

New law

Current law

To be eligible to apply the CGT small business concessions, a taxpayer must satisfy the basic conditions set out in subsection 152-10(1) in relation to the capital gain.

Additional basic conditions apply for capital gains relating to shares in a company or interests in a trust. These are:

•        either:

-       the taxpayer must be a CGT concession stakeholder in the object entity; or

-       broadly, entities that are CGT concession stakeholders in the object entity must have small business participation percentages totalling at least 90 per cent in the taxpayer;

•        unless the taxpayer satisfies the maximum net asset value test, the taxpayer must have carried on a business just prior to the CGT event;

•        the object entity must be a CGT small business entity for the income year or satisfy the maximum net asset value test; and

•        the shares or interests in the object entity must satisfy a modified active asset test that looks through shares in companies and interests in trusts to the activities and assets of the underlying entities.

To be eligible to apply the CGT small business concessions, a taxpayer must satisfy the basic conditions set out in subsection 152-10(1) in relation to the capital gain.

Additional basic conditions apply for capital gains relating to shares in a company or interests in a trust - the taxpayer must be a CGT concession stakeholder in the object entity or, broadly, entities that are CGT concession stakeholders in the object entity must have small business participation percentages totalling at least 90 per cent in the taxpayer.

Detailed explanation of new law

2.12               Schedule 2 amends Division 152 of the ITAA 1997 to include additional basic conditions that must be satisfied for a capital gain of a taxpayer to be reduced or disregarded under that Division. The new conditions are intended to prevent the concessions from being inappropriately applied to interests in large businesses.

2.13               Consistent with this purpose, the additional basic conditions only apply to capital gains relating to CGT assets that are a share in a company or interest in a trust (the object entity). [Schedule 2, item 2, subsection 152-10(2)]

2.14               These conditions apply on an entity basis. A taxpayer at the top of a chain of companies or trusts may not qualify for the concessions in respect of shares or interests it holds (for example, because the chain includes an entity with an interest in a large business). However, another taxpayer in the same chain of companies or trusts may qualify for the concessions in respect of shares or interests it holds in a small business.

2.15               There are broadly three additional basic conditions relating to the modified active asset test, the taxpayer and the object entity.

Modified active asset test

2.16               In order to satisfy the first new condition, for the lesser of seven and a half years or at least half the period a taxpayer has held the share or interest at least 80 per cent of the sum of the:

•        total market value of the assets of the object entity (disregarding any shares in companies or interests in trusts); and

•        total market value of the assets of any entity (a later entity) in which the object entity had a small business participation percentage of greater than zero, multiplied by that percentage

must have related to assets that are:

•        active assets; or

•        cash or financial instruments that are inherently connected with a business carried on by the object entity or a later entity.

[Schedule 2, item 2, paragraph 152-10(2)(a) and paragraphs 152-10(2A)(a) and (b)]

2.17               Further, if these assets are held by a later entity (see paragraph 2.20), the assets will only be active at a time if the later entity is an entity:

•        that is, at the relevant time, either:

-       a CGT small business entity; or

-       satisfies that maximum net asset value test in relation to the capital gain; and

•        in which the taxpayer has a small business participation percentage of at least 20 per cent or is a CGT concession stakeholder at the relevant time.

2.18               In determining if an entity is a CGT small business entity or satisfies the maximum net asset value test at a time, this test also operates differently to the ordinary rules. First, it does not include the turnover or value of assets of entities that can control the object entity. This ensures that the outcomes for taxpayers do not depend upon the income or assets of third parties for which the taxpayer has no control.

2.19               Secondly, for the purposes of this test, an entity is treated as controlling another entity at a time if it has an interest of 20 per cent or more in that other entity at that time, rather than 40 per cent or more. This means that more entities are considered to be ‘connected with’ one another for the purpose of this test and need to count the assets or turnover of the other entity towards their aggregate turnover or total net CGT assets. Also, in working out if one entity controls another for these purposes, any determinations by the Commissioner under subsection 328-125(6) are disregarded.

2.20               In effect, for the purposes of this test, the active asset test in section 152-35 is modified to adopt a look-through approach. Rather than treating shares or interests as active assets based on the activities of the underlying company, the modified test looks through such membership interests to include the proportionate amount of the value of the assets of other entities (referred to as later entities) to which the interests ultimately relate.

2.21               Thirdly, the modified test only treats assets as ‘active’ if they meet additional requirements. Assets that are not cash or financial instruments must be used in carrying on the business of a later entity (see above) that does not have both significant turnover and assets. Assets that are cash or financial instruments must be inherently connected with such a business. However, the inclusion of cash and financial instruments is subject to an integrity rule. If cash or financial instruments are acquired or held for a purpose that includes ensuring the entity satisfies the new additional basic conditions they are disregarded. The rule is similar to the integrity rule for pre-CGT assets in subsection 104-230(8). Its application is expected to be limited, but it ensures there is no incentive for taxpayers to engage in artificial arrangements to seek to allow entities to satisfy the test.

2.22               Finally, the assets must also be held by an entity in which the taxpayer either has a small business participation percentage of 20 per cent or more or is a CGT concession stakeholder. An individual is a CGT concession stakeholder in a company or trust if, broadly, the individual or their spouse has a CGT small business participation percentage of 20 per cent or more in the company or trust (see sections 152-50, 152-55 and 152-60).

2.23               This condition prevents the concession from being available for interests in entities if most of the value of the assets of the entity is unrelated to its business activities. In such cases, while the entity carries on a small business, most of the value of the interest held by the taxpayer is not attributable to the small business and it is not appropriate for the small business concessions to apply to the disposal of the interest.

2.24               The condition also recognises that an investment is effectively passive in nature if an entity has an interest of less than 20 per cent in another entity.

Example 2.1: Holding company

Jesse carries on a small lapidary business as a sole trader. He is a CGT small business entity (according to the general rules) for the 2019-20 income year.

Jesse owns 50 per cent of the shares in A Co. A Co carries on a business providing cleaning services and is a CGT small business entity in the 2019-20 income year.

A Co also owns 10 per cent of B1 Pty Ltd and 15 per cent of B2 Pty Ltd. Both of these companies are also CGT small business entities in the 2019-20 income year. These companies are not affiliates of A Co.

There has been no significant change in the activities or holdings of A Co, B1 Pty Ltd or B2 Pty Ltd over the period Jesse has owned his shares.

On 9 November 2019, Jesse sells his interest in A Co.

In working out if this interest satisfies the modified active asset test, when working out the total value of the assets of A Co, Jesse must disregard the value of the shares A Co holds in B1 Pty Ltd and B2 Pty Ltd and include 10 per cent of the value of the assets of B1 Pty Ltd and 15 per cent of the value of the assets of B2 Pty Ltd.

Further, for this purpose none of the assets of B1 Pty Ltd and B2 Pty Ltd are active assets for A Co. Jesse’s small business participation percentage in B1 Pty Ltd is 5 per cent (i.e. his 50 per cent stake in A Co multiplied by A Co’s 10 per cent stake in B1 Pty Ltd). Similarly, his small business participation percentage in B2 Pty Ltd is 7.5 per cent (i.e. his 50 per cent stake in A Co multiplied by A Co’s 15 per cent stake in B2 Pty Ltd).

Example 2.2: Connected entities and the modified active asset

Charlotte owns 35 per cent of the shares in Colour Co. Colour Co carries on a business of wholesaling paint and related products and is a CGT small business entity (according to the general rules) in the 2019-20 income year.

Colour Co owns 20 per cent of the shares in three pigment suppliers Red Co, Green Co and Blue Co. Red Co and Blue Co are both CGT small business entities for the 2019-20 income year (and have been since Colour Co acquired its interest) according to the general rules. Green Co is not and has never been a CGT small business entity as it exceeds the turnover threshold.

On 3 March 2020, Charlotte sells her shares in Colour Co.

In working out if this interest satisfies the modified active asset test, when working out the total value of the assets of Colour Co, Charlotte must disregard the value of the shares Colour Co holds in Red Co, Blue Co and Green Co and include 20 per cent of the value of the assets of these companies.

Further, for the purposes of the modified active asset test, assets of later entities are only active if the entity is a CGT small business entity or satisfies the maximum net asset value test.

Green Co is not a CGT small business entity as its turnover is too high.

Additionally, Charlotte must treat Red Co, Blue Co and Green Co as being connected with Colour Co and with each other for the purposes of the test, because Colour Co holds 20 per cent of the shares of each entity.

Because they are treated as being connected with Green Co, Red Co and Blue Co are also treated as not being CGT small business entities for these purposes.

As a result, Charlotte is not able to treat the assets of Red Co, Blue Co or Green Co as active assets for the purposes of this test unless the entities satisfy the maximum net asset value test.

Example 2.3: Small investments

Arnold carries on a small marketing business as a sole trader. He is a CGT small business entity (according to the general rules) for the 2019-20 income year.

Arnold also owns 20 per cent of Channel Investments Trust, a trust that invests in a wide range of widely held trusts and companies.

Channel Investments Trust has assets with a total net market value of $2 million, of which $1.95 million consists of shares in companies and units in trusts. Channel Investments Trust has never had a small business participation percentage exceeding 10 per cent in any other entity.

On 20 April 2020, Arnold sells his interest in Channel Investments Trust. Arnold is not eligible to access the CGT concessions under Division 152 for any resulting capital gain.

While Arnold may satisfy the basic conditions for relief for the capital gain, he does not satisfy the new conditions.

The investment in Channel Investments Trust does not satisfy the modified active asset test as 97.5 per cent of its assets are shares and interests in trusts that are considered passive assets as its small business participation percentage in the relevant entities is less than 20 per cent.

Condition relating to the taxpayer

2.25               In order to satisfy the second new condition, the taxpayer must generally have carried on business just prior to the CGT event happening. This ensures that entities do not benefit from this concession where the relevant business activities are too remote to justify the entity receiving a concession for business activities. [Schedule 2, item 2, paragraph 152-10(2)(b)]

2.26               However, this requirement does not apply to taxpayers that satisfy the maximum net asset value test in relation to the CGT event. In this case, eligibility to access the concession relates to the size of the taxpayer, not any related small business activities. [Schedule 2, item 2, paragraph 152-10(2)(b)]

Conditions relating to the object entity

2.27               To satisfy the final new condition, the object entity (see paragraph 1.13) must either be a CGT small business entity or satisfy the maximum net asset value test in relation to the capital gain. This prevents the concession being available for interests in entities that are carrying on a business that is not a small business as it has both substantial aggregate turnover and net assets. [Schedule 2, item 2, paragraphs 152-10(2)(c)]

2.28               When working out if the object entity is a CGT small business entity or satisfies the maximum net asset value test, the turnover or assets of entities that may control the object entity are disregarded. This ensures that the outcomes for taxpayers do not depend upon the income or assets of third parties. [Schedule 2, item 2, subparagraphs 152-10(2)(c)(iii) and (iv)]

2.29               Further, for these purposes (and only these purposes), an entity is treated as controlling another entity if it has an interest of 20 per cent or more, rather than 40 per cent or more. This means that more entities are considered to be ‘connected with’ one another for the purpose of this test and need to count the assets or turnover of the other entity towards their aggregate turnover or the total net value of their CGT assets. [Schedule 2, item 2, subparagraph 152-10(2)(c)(iv)]

2.30               Also, in working out if one entity controls another for these purposes, any determinations by the Commissioner under subsection 328-125(6) are disregarded. [Schedule 2, item 2, subparagraph 152-10(2)(c)(v)]

Example 2.4: Investment in large business

Karen carries on a small consulting business as a sole trader. She is a CGT small business entity (according to the general rules) for the 2019-20 income year.

Karen also owns 30 per cent of the shares in Big Pty Ltd, a large private company with annual turnover in excess of $20 million in both the 2018-19 and 2019-20 income years. The net value of Big Pty Ltd’s CGT assets exceeds $100 million throughout this period.

On 1 October 2019, Karen sells her shares in Big Pty Ltd. She would not be eligible to access the Division 152 CGT concessions for any resulting capital gain.

Even if Karen satisfies the other basic conditions for relief, she cannot satisfy the new condition. Big Pty Ltd is not a CGT small business entity in the 2019-20 income year. It also does not satisfy the maximum net asset value test in relation to the capital gain, as its net assets exceed $6 million immediately prior to the CGT event happening (being in excess of $100 million for the entire income year).

Example 2.5: Indirect investment in large business

Tien owns 20 per cent of the shares in Investment Co, a company that carries on an investment business. Investment Co is a CGT small business entity (according to the general rules) for the 2020-21 income year.

Investment Co holds 20 per cent of Van Co, a transport company. Van Co’s turnover and assets mean that it is not a CGT small business entity in the 2020-21 income year and does not satisfy the maximum net asset value test at any point during the income year.

On 15 May 2021, Tien sells his shares in Investment Co. He is not eligible to access the Division 152 CGT concessions for any resulting capital gain.

Even if Tien satisfies the other conditions, he cannot satisfy the new condition requiring the object entity be a CGT small business entity or satisfy the maximum net asset value test due to the modifications that apply when determining this matter for the purposes of this condition.

For the purposes of this condition, Investment Co is considered to be connected with Van Co, as Investment Co holds 20 per cent of Van Co’s shares. As a result, for this purpose, Investment Co’s turnover and assets include the turnover and assets of Van Co. As Van Co is not a CGT small business entity and does not satisfy the maximum net asset value test, Investment Co is also treated as not satisfying these requirements (despite its status under the general rules in the tax law).

Example 2.6: Passive investment entities

George carries on a small gardening business. George is a CGT small business entity for the 2019-20 income year.

George holds all of the units in G Trust, a trust that holds a number of investments in other entities but which does not carry on a business. The total value of the investments held by G Trust also means that it does not satisfy the maximum net asset value test.

On 17 February 2020, George sells the units it holds in G Trust. George is not eligible to access the Division 152 CGT concessions for any resulting capital gain.

Even if George satisfied the basic conditions for relief, he cannot satisfy the new condition as G Trust is not a CGT small business entity (as it does not carry on a business) and does not satisfy the maximum net asset value test.

Consequential amendments

2.31               Schedule 2 also makes a number of consequential amendments to the ITAA 1997, including updating guide material to reflect the substantive amendments. [Schedule 2, item 1, section 152-5]

2.32               These amendments also change the existing structure of subsection 152-10(2) to accommodate the new conditions. These structural changes do not make any substantive changes to the operation of the pre-existing condition. [Schedule 2, item 2, subsection 152-10(2) and paragraph 152-10(2)(d)]

Application and transitional provisions

2.33               The amendments made by Schedule 2 commence on the first day of the first quarter to start after the day of Royal Assent. [clause 2]

2.34               The amendments apply to CGT events that occur on or after 1 July 2017. [Schedule 2, item 3]

2.35               This retrospective application is consistent with the Budget announcement by the Government on 9 May 2017 to ensure the small business CGT concessions are only available in relation to assets used in a small business and ownership interests in small businesses.

2.36               Taxpayers that sought to access the concessions in relation to the disposal of assets on or after 1 July 2017 where this is not consistent with the amended law do not receive the benefit of these concessions. This includes taxpayers that have sought to access the small business retirement exemption to reduce their CGT liability by contributing amounts to superannuation (in this case the amount contributed is not exempt from CGT and is a non-concessional contribution to superannuation for the relevant financial year).

2.37               This measure is an integrity measure. While its retrospective application may disadvantage some taxpayers that have sought to access the concessions after announcement, this application is necessary to minimise the scope for entities to inappropriately access the small business CGT concessions in the period after the measure was announced but before legislation is enacted.



Chapter 3          

Fintech and venture capital amendments

Outline of chapter

3.1                   Schedule 3 to the Bill amends the income tax law and the Venture Capital Act 2002 to ensure that the venture capital tax concessions are available for investments in fintech businesses.

3.2                   All legislative references in this Chapter are to the ITAA 1997 unless otherwise stated.

Context of amendments

Venture capital

3.3                   Venture capital is a mechanism for financing new, innovative enterprises at the seed, start up and early-expansion stages of commercialisation. Venture capitalists invest funds in such enterprises in return for an equity share. The funds are used to develop an enterprise’s ideas to the stage where their commercial potential is sufficient for the venture capitalist to sell its equity to another party.

3.4                   The Commonwealth provides various tax concessions to support Australian venture capital investments; specifically the VCLP and ESVCLP programs. To be eligible for these tax concessions, among other things, VCLPs and ESVCLPs must only invest in entities that are predominantly engaged in activities that are not ineligible activities (see subsections 118-425(3), 118-425(13), 118-427(4) and 118-427(14)). Ineligible activities include many kinds of finance, insurance and making investments.

VCLPs

3.5                   The VCLP regime supports investment in venture capital entities at the high-risk, start-up and expansion stages that would otherwise have difficulty in attracting investment through normal commercial means.

3.6                   A VCLP is taxed on a ‘flow-through’ basis rather than being treated as a company for tax purposes like other limited partnerships resulting in the partners rather than the ‘partnership’ being taxed. One of the key benefits is that certain foreign partners are exempt from income tax on capital and revenue gains from disposals of eligible investments made by the VCLP, with corresponding losses also being disregarded. In addition, amounts received by certain partners for their successful management of the partnership’s investments (‘carried interests’) are taxed on capital account.

ESCVLPs

3.7                   The ESVCLP regime provides additional tax concessions for high-risk start-up entities (with a value of no more than $50 million).

3.8                   Like VCLPs, ESVLPs are taxed on a ‘flow-through’ basis. However, the tax concessions are more generous than for VCLPs given the higher degree of risk involved. Both Australian and foreign investors are exempt from income tax on capital and revenue gains from disposals of investments made by ESVCLPs, with corresponding losses also being disregarded. Income derived from the partnership’s investments, such as dividends, is also exempt from income tax.

Venture capital and fintech

3.9                   As part of the 2016-17 Budget the Government announced reforms to the tax incentives for venture capital investors in relation to investments in financial technology or fintech.

3.10               Australia has a sophisticated, competitive and profitable financial sector underpinned by a strong regulatory system. As financial services become more globalised and technological disruption increases it needs to keep pace with innovation in banking and finance to stay competitive.

3.11               The Government is creating an environment to make Australia’s fintech sector more internationally competitive. However, stakeholders have raised concerns that the access of the fintech sector to venture capital investment is currently restricted due to uncertainty about whether such investments are eligible venture capital investments.

3.12               Currently, for the purposes of the venture capital tax concessions, finance (to the extent it consists of banking, providing capital, leasing, factoring or securitisation), insurance and making investments for the purposes of, broadly, deriving passive income are ineligible activities (see subsections 118-425(13) and 118-427(14)). An investment in an entity is not an eligible venture capital investment if broadly, its predominant activities include ineligible activities (see subsections 118-425(3) and 118-427(4)).

3.13               The close relationship between fintech and these ineligible activities has given rise to questions about whether investments in companies and unit trusts engaged in the development of fintech are eligible venture capital investments.

3.14               In most cases such activities are not ineligible activities. Finance (particularly banking), insurance and making investments are relatively specific activities that are generally subject to comprehensive regulatory regimes. Developing technology or providing services to facilitate finance, insurance and making investments for the purposes of deriving passive income (including investments in shares, unlisted assets and real estate) is generally distinct from engaging in these activities. Such related services are not subject to the relevant regulatory regimes and likewise outside the scope of ineligible activities for the venture capital tax concessions.

3.15               Taxpayers can also obtain certainty about the status of investments for the venture capital tax concessions from Innovation and Science Australia. Innovation and Science Australia has the power to issue binding public and private rulings as well as powers to make determinations to effectively disregard activities for the purposes of the predominant activity test in certain circumstances - see subsections 118-425(14) and (14B) and 118-427(15) and (15A) of the ITAA 1997 and Division 362 in Schedule 1 to the Taxation Administration Act 1953 .

Summary of new law

3.16               Schedule 3 of this Bill amends the ITAA 1997 to provide that, despite the existing rules concerning ineligible activities, an activity is not an ineligible activity for the purpose of the venture capital tax concessions if it is:

•        developing technology in relation to finance, insurance or making investments;

•        ancillary or incidental to developing technology in relation to finance, insurance or making investments; or

•        covered by a finding from Innovation and Science Australia that it is a substantially novel application of technology. 

Comparison of key features of new law and current law

New law

Current law

Activities that:

•        consist of developing technology in relation to finance, insurance or making investments (for example for use in a new product or service);

•        are ancillary or incidental to developing technology in relation to finance, insurance or making investments; or

•        are covered by a private or public finding from Innovation and Science Australia that it is a substantially novel application of technology;

are not ineligible activities.

An investment in an entity that predominantly carries on such activities may be an eligible venture capital investment.

Finance, insurance and making investments are ineligible activities. An investment in an entity that predominantly carries on such activities is generally not an eligible venture capital investment.

Detailed explanation of new law

3.17               Schedule 3 to this Bill amends the ITAA 1997 to ensure that the venture capital investment tax concessions are available for investments in fintech businesses.

3.18               Schedule 3 does this by making two changes to the activities that are ineligible activities for the purposes of the concessions. [Schedule 3, items 1 and 2, subsections 118-425(13A) and 118-427(14A)]

3.19               It should be noted that these amendments operate solely to reduce the scope of what activities are ineligible activities. Many businesses carry on activities relating to fintech that are not affected by these amendments as they have never been ineligible activities.

Development of technology

3.20               Schedule 3 excludes activities relating to the development of technology for use in relation to finance, insurance and making investments as well as activities that are incidental or ancillary to such development activities from being ineligible activities for the purposes of the venture capital tax concessions. [Schedule 3, items 1 and 2, paragraphs 118-425(13A)(a) and (b) and 118-427(14A)(a) and (b)]

3.21               Effectively, the amendments allow ESVCLPs and VCLPs to invest in entities with predominant activities that include the development of technology for use in finance, insurance or making investments (see paragraph 3.14).

3.22               Technology is used in its ordinary meaning; broadly, the practical application of science and engineering. It is not limited to physical devices and can include software. The use of the broad concept is intended to ensure that the meaning of the provision is not limited to current activities but can adapt in line with future developments and changes in practice.

3.23               ‘Developing technology’ is likewise a broad concept, generally covering things done to create, understand and apply technological innovation. It can extend to adapting existing technology for a novel use, such as a novel product or service. It does not, however, generally include the mere use of existing technology, in a manner consistent with an established practice or practices for the use of that technology in the industry sector in which the business is operating.

3.24               The exclusion also covers activities that are incidental or ancillary to these development activities. This can include a wide range of connected activities including the use of the technology to develop or provide new products and services, even if this involves carrying out finance, insurance or investment activities that would otherwise be ineligible activities.

3.25               However, such activities must be incidental or ancillary to the development of technology. This is a matter that needs to be considered in all of the circumstances of the activity. Ultimately, to be incidental or ancillary, activities must be subordinate to the development activities.

3.26               For example, a business creating a substantially novel product in the form of a platform that allows investors to undertake micro-investment in a portfolio of securitised insurance policies and shares would likely satisfy this test during its development, testing and initial commercialisation (i.e. market testing). This is because, in these phases of development, it is likely the activities being carried on are incidental or ancillary to the development of the technology embodied in its product. This necessarily means that, over time, the business may become less likely to satisfy this test as its activities shift from developing the underlying technology to commercialisation, building market share and other uses of the now established technology.

3.27               It should be noted that the above example assumes that the activities amount to finance, insurance or making investments. In many cases, establishing a platform for others to engage in such activities (such as by connecting investment advisors with customers to facilitate investments between these two parties) would not constitute carrying on such activities and so would fall outside the scope of subsections 118-425(13) and 118-427(14).

3.28               Merely carrying on finance activities, insurance activities or investment activities using technology does not make these activities incidental to the development of the technology. However, for example if developers of investment software occasionally use it to make investments, this use may be an ancillary activity. This is likely to depend on the frequency, nature or size of the activities for which the developer uses the technology.

3.29                    The amendments also allow for regulations to be made to prescribe activities to which this exclusion does not apply. Fintech is a rapidly changing area and this allows a quick response to emerging issues that result in unintended outcomes without qualifying the broad operation of the provisions. [Schedule 3, items 1 and 2, subsections 118-425(13B) and 118-427(14B)]

Substantially novel applications of technology

3.30               Schedule 3 also excludes activities from being ineligible activities because the activities are related to finance, insurance or making investments if the activities were covered by a finding from Innovation and Science Australia that the activities are a substantially novel application of technology at the time the investment was made. [Schedule 3, items 1, 2 and 3, paragraphs 118-425(13A)(c) and 118-427(14A)(c) and section 118-432]

3.31               This exclusion is intended to permit ESVCLPs and VCLPs to invest in entities that are engaged in substantially novel activities in relation to fintech, even if these activities have moved from the development of technology to its application (in many cases this may occur when a business moves from market-testing a product to full commercialisation).

3.32               To be substantially novel, an application of technology must be new or uncommon and must involve some degree of innovation. This means that many uses of new technology will be substantially novel applications, unless that use has become widespread. Applications of older technology may also be substantially novel, if the technology is used in a manner that is new or applied in a different way to general practice in the relevant industry sector.

3.33               It should be noted that, in this context, novel does not have the specialised meaning it holds in the Patents Act 1990 . In these amendments, novelty does not require that an application of technology be unique or wholly unprecedented. If multiple entities all adopt the same or similar new ways of using technology within a short period of time, each entity’s activities may well represent a novel application of technology.

3.34               This could include, for example, entities developing similar new products or services before these products or services are widely available or commonly used in the relevant industry. It could also include the application of technology that is commonly used in one sector to another area where it has not previously been commonly used.

3.35               Determining if an application of technology is substantially novel is a complex question of fact. In order to provide certainty and clarity for investment, an activity must be covered by a finding to this effect from Innovation and Science Australia before an activity can benefit from the concessions.

3.36               There are two types of findings, private findings and public findings.

3.37               Innovation and Science Australia must make a private finding upon receiving a request for a finding in relation to an activity in the approved form, if satisfied that the relevant activities are a substantially novel application of technology. Substantially novel applications of technology can involve, for example, a new product or service based on an application of new or existing technology that is not consistent with the general practice of the relevant industry sector. [Schedule 3, item 3, subsections 118-432(2) and (4)]

3.38               These private findings are administrative in character and are not legislative instruments. They deal with the circumstances of a particular entity and may often involve confidential or commercially sensitive information about its business activities. They are also subject to merits review - see paragraph 3.48.

3.39               Innovation and Science Australia must notify the applicant in writing of their decision in relation to an application for a private finding. However a failure to do so does not affect the validity of a finding or a decision not to make a finding. [Schedule 3, item 3, subsections 118-432(5) and (6)]

3.40               Innovation and Science Australia may also make a public finding about a class of activities if it is satisfied that the relevant class of activities are a substantially novel application of technology. As public findings affect the legal treatment of a class of activities (rather than being specific to a particular entity), they are a legislative instrument, and this is specified in the amendments for avoidance of doubt. [Schedule 3, item 3, subsection 118-432(1)]

3.41               Both types of finding apply for the period specified in the finding by Innovation and Science Australia. This recognises that the novelty of activities is likely to change over time. In determining the appropriate period for a ruling to apply, Innovation and Science Australia is expected to balance the need for the status of particular activities to be reconsidered periodically with the need of stakeholders for certainty and the importance of follow-on investments. [Schedule 3, item 3, subsection 118-432(3)]

3.42               It should be noted that if an activity is covered by a finding at the time an investment is made, it is always excluded from being an ineligible activity for the purpose of that investment. This means that the expiry of a finding will not affect the status of existing investments as an eligible venture capital investment if the activities of the investee entity have not changed.

3.43               However, the finding only affects the treatment of the activities it covers. These activities must be considered together with all other activities of the relevant entity as well as the other conditions to determine if an investment in the entity is an eligible investment.

3.44               This means that, for example, an investment in an existing small insurer that adopts a substantially novel application of technology in one area of its business is still unlikely to satisfy the predominant activity test (see subsection 118-425(3) for companies or subsection 118-427(4) for unit trusts). While the finding allows it to treat the novel application as an eligible activity, its other insurance activities remain ineligible activities and so it is unlikely to satisfy the requirements of the predominant activities test.

3.45               In contrast, an investment in an existing small insurer that adopts a substantially novel application of technology in a way that is central to their business model is much more likely to satisfy the predominant activity test. In this case, a substantial portion of this business’s activities are likely to relate to the commercialisation and other uses of the technology that are applications of the technology covered by the finding. Further a substantial part of the other activities of the business is also likely to include the continuing development and refinement of the technology. These types of activity would be treated as not being ineligible activities.

3.46               It is expected that Innovation and Science Australia will consult with the Commissioner of Taxation when making a finding, given the implication of Innovation and Science Australia’s findings for the Commissioner of Taxation’s administration of the tax law. However, the final responsibility for making findings rests with Innovation and Science Australia.

3.47                    In the same way as for the development of technology, the amendments also allow for regulations to prescribe that this exclusion does not apply to prescribed activities. Fintech is a rapidly changing area and this permits a quick response to emerging issues that result in unintended outcomes without qualifying the broad operation of the provisions. [Schedule 3, items 1 and 2, subsections 118-425(13B) and 118-427(14B)]

3.48               Schedule 3 also makes an amendment to the Venture Capital Act 2002 to provide that the decision by Innovation and Science Australia to make (or not to) make a private finding is subject to the internal and AAT review in the same way as other administration decisions relating to the venture capital tax concessions. [Schedule 3, item 5, paragraph 29-1(m) of the Venture Capital Act 2002]

Consequential amendments

3.49               Schedule 3 makes a consequential amendment to Division 362 in Schedule 1 to the Taxation Administration Act 1953 to insert a note to confirm that the power of Innovation and Science Australia to make rulings about ineligible activities extends to cover the changes made to eligibility as a result of these amendments. [Schedule 3, item 4, notes to subsections 362-5(1) and 362-25(1) in Schedule 1 to the Taxation Administration Act 1953]

3.50               Schedule 3 also makes consequential amendments to the income tax law to include notes to explain the substantive amendments. [Schedule 3, item 3, notes to section 118-432]

Application and transitional provisions

3.51               The amendments made by Schedule 3 commence on the first day of the first quarter to begin after the day the Bill receives Royal Assent. [clause 2]

3.52               The amendments apply to investments made on or after 1 July 2018. [Schedule 3, item 6]



Outline of chapter

4.1                   Schedule 4 to this Bill amends the ITAA 1997 to exempt from income tax payments made by the Commonwealth, on the recommendation of the Defence Ombudsman, as reparation for abuse by Australian Defence Force personnel.

Context of amendments

The Defence Abuse Response Taskforce

4.2                   The Defence Abuse Response Taskforce was established on 10 April 2011 to assess and respond to individual cases of sexual and other abuse in the Australian Defence Force.

4.3                   The Defence Abuse Response Taskforce administered reparation payments through the Defence Abuse Reparation Scheme of up to $50,000 to complainants who likely suffered abuse in the Australian Defence Force.

4.4                   Reparation payments were not paid as compensation for loss or damage for any asserted, perceived, or possible legal liability on behalf of the Commonwealth, or for any injury, disease or impairment. The payments did not affect complainants' statutory, common law or other legal rights.

Taxable status of reparation payments

4.5                   Whether a payment is subject to income tax is determined by its character in the hands of the recipient. A payment that has the character of income according to ordinary concepts is assessable income unless a statutory exemption applies. One-off payments will generally have the character of ordinary income if they are received as a product of, or in relation to, employment, services rendered or the carrying on of a business.

4.6                   As payments made by the Defence Abuse Response Taskforce arose out of an employment relationship with the Department of Defence or the Australian Defence Force, they could also be characterised as statutory income under section 15-2 of the ITAA 1997, which applies to allowances and other things provided in respect of employment.

4.7                   However, section 51-5 of the ITAA 1997 operates to ensure that reparation payments made under the Defence Abuse Reparation Scheme are exempt from income tax.

The Defence Force Ombudsman

4.8                   The Defence Abuse Response Taskforce concluded on

31 August 2016. The administration of reparation payments is now performed by the Defence Force Ombudsman.

4.9                   The Ombudsman Act 1976 establishes the office of the Commonwealth Ombudsman to investigate complaints made under the Ombudsman Act 1976 and to perform other specialised functions.

4.10               The Ombudsman Regulations 2017 establish the office of the Defence Force Ombudsman and confer ‘the function of taking appropriate action to respond to a complaint of abuse made by a complainant about abuse engaged in by a member of Defence’.

4.11               Appropriate action may include facilitating counselling or a restorative engagement conference for the complainant, or making recommendations to the Department of Defence that they make a reparation payment to the complainant in certain circumstances.

4.12               The payments are not intended to be compensation and complainants will not be required to release the Commonwealth from liability.

4.13               The Defence Force Ombudsman may also make a recommendation for an additional payment in connection with the reparation payment for failure of the Department of Defence to respond appropriately to the abuse.

Summary of new law

4.14               This measure amends the ITAA 1997 to exempt from income tax, payments made in accordance with a recommendation of the Defence Force Ombudsman in relation to abuse by Australian Defence Force personnel.

Comparison of key features of new law and current law

New law

Current law

Payments made to a recipient from the Commonwealth in relation to a recommendation by the Defence Force Ombudsman in relation to abuse by Australian Defence Force personnel are exempt from income tax.

Payments made to a recipient under the Defence Abuse Reparation Scheme are exempt from income tax.

 

Payments made to a recipient from the Commonwealth in relation to a recommendation by the Defence Force Ombudsman in relation to abuse by Defence personnel may be subject to income tax depending on the particular circumstances of the recipient.

Detailed explanation of new law

4.15               The Defence Force Ombudsman may recommend that the Department of Defence make a payment to a member or prior member of the Australian Defence Force as reparation for abuse.

4.16               This measure updates the references to the administration of reparation payments to ensure that reparation payments made under the new Defence Force Ombudsman mechanism are exempt from income tax.

4.17               This outcome is achieved by exempting from income tax, payments from the Commonwealth in relation to a recommendation by the Defence Force Ombudsman performing a function conferred by section 14 or 14B of the Ombudsman Regulations 2017 . [Schedule 4, item 3, item 1.7 in table in section 51-5]

4.18               The Ombudsman Regulations 2017 confer on the Defence Force Ombudsman the functions of taking appropriate action to respond to both new and old complaints of abuse. Appropriate action includes making recommendations to the Defence Secretary to make a reparation payment to the complainant.

4.19               This Schedule applies to ensure that reparation payments will not be assessable income, so that those who receive such a payment will receive the full benefit of the payment.

4.20               Section 11-15 of the ITAA 1997 lists income which is exempt from income tax. Schedule 4 makes a consequential amendment to this list to include payments made in relation to a Defence Force Ombudsman recommendation as a category of exempt income. [Schedule 4, item 2]

4.21               This measure also repeals the exemption from income tax for the now concluded Defence Abuse Reparation Scheme. No reparation payments will be affected by this repeal as no new payments are being made under the Scheme. [Schedule 4, item 1]

Application and transitional provisions

4.22               These amendments will apply to the 2017-18 income year and later income years. [Schedule 4, item 4]

 

 



Chapter 5          

Statement of Compatibility with Human Rights

Prepared in accordance with Part 3 of the Human Rights (Parliamentary Scrutiny) Act 2011

Schedule 1 - Toughening the multinational anti-avoidance law

5.1                   This Schedule is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011 .

Overview

5.2                   Schedule 1 to the Bill amends the ITAA 1936 to ensure that the multinational anti-avoidance law applies appropriately to artificial or contrived arrangements by multinational entities to avoid the taxation of business profits in Australia involving trusts and partnerships.

Human rights implications

5.3                   This Schedule does not engage any of the applicable rights or freedoms. It only affects multinational entities engaged in tax avoidance.

Conclusion

5.4                   This Schedule is compatible with human rights as it does not raise any human rights issues.

Schedule 2 - Improving the integrity of the small business CGT concessions

5.5                   This Schedule is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011 .

Overview

5.6                   Schedule 2 to the Bill amends the ITAA 1997 to ensure that the small business CGT concessions in Division 152 of the ITAA 1997 are only available for assets that are either used in a small business or are an interest in a small business.

Human rights implications

5.7                   This Schedule does not engage any of the applicable rights or freedoms.

Conclusion

5.8                   This Schedule is compatible with human rights as it does not raise any human rights issues.

Schedule 3 - Fintech and venture capital amendments

5.9                   This Schedule is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011 .

Overview

5.10               Schedule 3 to the Bill amends the income tax law and Venture Capital Act 2002 to ensure that the venture capital tax concessions are available for investments in fintech businesses.

Human rights implications

5.11               This Schedule does not engage any of the applicable rights or freedoms.

Conclusion

5.12               This Schedule is compatible with human rights as it does not raise any human rights issues.

Schedule 4 - Tax exemption for payments made under the Defence Force Ombudsman Scheme

5.13               Schedule 4 is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011 .

Overview

5.14               Schedule 4 to this Bill amends the ITAA 1997 to exempt from income tax, payments received from the Commonwealth as reparation for abuse by Australian Defence Force personnel.

Human rights implications

5.15               This Schedule does not engage any of the applicable rights or freedoms.

Conclusion

5.16               This Schedule is compatible with human rights as it does not raise any human rights issues.