Borrowing by superannuation funds under scrutiny

The final report of the Murray Financial System Inquiry (the Inquiry) was released on 7 December 2014. The Inquiry made 44 recommendations relating to the Australian financial system. The Inquiry identified two general themes where there is significant scope to improve the functioning of the financial system:

• funding the Australian economy; and
• competition

The Inquiry identified a number of distortions that impede the efficient market allocation of financial resources, including taxation, information imbalances and unnecessary regulation. Reducing the distortionary effects of taxation should lead the system to allocate savings (including foreign savings) more efficiently and price risk more accurately. The Inquiry has referred identified tax issues for consideration in the Tax White Paper.

SMSF borrowings – prohibition on LRBAs

The Inquiry recommended removing the exception to the general prohibition on direct borrowing for limited recourse borrowing arrangements (LRBAs) by superannuation funds. The report recommended that the current superannuation borrowing exception in s 67A of the SIS Act should be removed on a prospective basis. Importantly, superannuation funds with existing borrowings would be permitted to maintain those borrowings. However, funds disposing of assets purchased via direct borrowings would be required to extinguish any associated debt at the same time. Key points include the following:

• Since 24 September 2007, super funds have been allowed to borrow pursuant to a limited recourse borrowing arrangement (LRBA) that strictly complies with the requirements in s 67A and 67B of the SIS Act. The current provisions allow superannuation funds (especially SMSFs) to borrow directly, with the underlying asset quarantined in a holding trust arrangement.
• The Inquiry panel noted that the amount of money borrowed by superannuation funds using LRBAs has increased from $497 million in June 2009 to $8.7 billion in June 2014. While the limited recourse nature of these arrangements alleviates the risk of losses resulting in claims over other fund assets, the Inquiry argues that LRBAs still magnify the chances of large losses (either inside or outside the fund). According to the final report, further growth in superannuation funds’ direct borrowing would, over time, increase risk in the financial system. The report argues that the prohibition of LRBAs will help to “prevent the unnecessary build-up of risk in the superannuation system and the financial system more broadly”. In addition, the report claims that borrowing by superannuation funds transfers some of the downside risk to taxpayers, who underwrite the safety net provided through the age pension.
• When the interim report was released in July 2014, the SMSF Professionals’ Association of Australia (SPAA) argued that any changes to the use of borrowing by superannuation funds should target the “fringes” of the superannuation borrowing market and concentrate on inappropriate promotion of borrowing in superannuation funds. At the time, SPAA CEO Andrea Slattery said that the use of gearing by SMSFs was being done “sensibly” and only used by a very small percentage (0.5%) of SMSFs. According to Mrs Slattery, most loans made to SMSFs are being made with responsible lending practices. Banks have tighter lending policies and have experienced lower levels of default with this type of credit facility compared with loans made for other purposes, Mrs Slattery said.

Other recommendations made by the Inquiry

The Inquiry also made the following recommendations:

Income product

Require superannuation trustees to pre-select a comprehensive income product for members’ retirement. The product would commence on the member’s instruction, or the member may choose to take their benefits in another way. Impediments to product development should be removed.

Fund choice

Provide all employees with the ability to choose the fund into which their superannuation guarantee contributions are paid.

Competency of financial advice providers

Raise the competency of financial advice providers and introduce an enhanced register of advisers.

In the Inquiry’s view, the minimum standards for those advising on Tier 1 products should include the following:

• a relevant tertiary degree;
• competence in specialised areas, such as superannuation, where relevant; and
• ongoing professional development (including technical skills, relationship skills, compliance and ethical requirements) to complement the increased focus on standards of conduct and professionalism as recommended elsewhere in the report.

Although the Inquiry did not recommend a national exam for advisers, it said this could be considered if issues in adviser competency persist.

Register of advisers

The Inquiry supported the establishment of the enhanced register to facilitate consumer access to information about financial advisers’ experience and qualifications and improve transparency and competition. It suggested that further consideration could be given to adding other fields, such as determinations by the Financial Ombudsman Service (FOS). The register should be designed to take into account future developments in automated advice and record the entity responsible for providing such services.

Interests of financial firms and consumers

Better align the interests of financial firms with those of consumers by raising industry standards, enhancing the power to ban individuals from management and ensuring remuneration structures in life insurance and stockbroking do not affect the quality of financial advice.

Create new Financial Regulator Assessment Board

The report recommends creating a new Financial Regulator Assessment Board to advise the Government annually on how financial regulators have implemented their mandates.

“General advice” and ownership structures

The Inquiry recommended renaming “general advice” and requiring advisors and mortgage brokers to disclose ownership structures. The current regulatory framework addresses advice on financial products. The framework makes the following important distinction between personal and general advice:

• Personal advice takes account of a person’s needs, objectives or personal circumstances, whereas general advice does not.
• General advice includes guidance, advertising, and promotional and sales material highlighting the potential benefits of financial products. It comes with a disclaimer stating that it does not take a consumer’s personal circumstances into account.

However, the report says consumers may misinterpret or excessively rely on guidance, advertising, and promotional and sales material when it is described as “general advice”. The use of the word “advice” may cause consumers to believe the information is tailored to their needs. Behavioural economics literature and ASIC’s financial literacy and consumer research suggests that terminology affects consumer understanding and perceptions. Often consumers do not understand their financial adviser’s or mortgage broker’s association with product issuers.

The Inquiry believes greater transparency regarding the nature of advice and the ownership of advisers would help to build confidence and trust in the financial advice sector. In particular, the report said “general advice” should be replaced with a more appropriate, consumer-tested term to help reduce consumer misinterpretation and excessive reliance on this type of information. The Inquiry believes the benefits to consumers from clearer distinction and the reduced need for warnings outweigh any costs that would be involved.

Tax White Paper

The Inquiry identified a number of taxes that it said distorts the allocation of funding and risk in the economy. The Inquiry also identified other tax issues that may adversely affect outcomes in the financial system. Unless they are already under active Government consideration, the report said the tax issues it flagged should be considered as part of the Tax White Paper process. These include the following issues:

• In reviewing the taxation of contributions and investment earnings in superannuation, the Tax White Paper process should consider aligning the earnings tax rate across the accumulation and retirement phases.
• Tax concessions in the superannuation system are not well targeted to achieve provision of retirement incomes.
• The relatively unfavourable tax treatment of deposits and fixed-income securitiesmakes them less attractive as forms of savings and increases the cost of this type of funding.
• Negative gearing and CGT concessions:

–        Capital gains tax concessions for assets held longer than a year provide incentives to invest in assets for which anticipated capital gains are a larger component of returns. The report said reducing these concessions would lead to a more efficient allocation of funding in the economy.

–        For leveraged investments, the report said the asymmetric tax treatment of borrowing costs incurred in purchasing assets (and other expenses) and capital gains, can result in a tax subsidy by raising the after-tax return above the pre-tax return. Investors can deduct expenses against total income at the individual’s full marginal tax rate. However, for assets held longer than a year, nominal capital gains, when realised, are effectively taxed at half the marginal rate. All else being equal, the increase in the after-tax return is larger for individuals on higher marginal tax rates.

–        The report said tax treatment of investor housing, in particular, tends to encourage leveraged and speculative investment. Since the Wallis Inquiry, higher housing debt has been accompanied by lenders having a greater exposure to mortgages. Housing is a potential source of systemic risk for the financial system and the economy.

• The case for retaining dividend imputationis less clear than in the past. To the extent that dividend imputation distorts the allocation of funding, a lower company tax rate would likely reduce such distortions. The report said the benefits of dividend imputation, particularly in lowering the cost of capital, may have declined as Australia’s economy has become more open and connected to global capital markets. If global capital markets set the (risk-adjusted) cost of funding, then dividend imputation acts as a subsidy to domestic equity holders. That would create a bias for domestic investors, including superannuation funds, to invest in domestic equities. The report said imputation provides little benefit to non-residents that invest in Australian corporates.
• For non-residents, repatriated income from Australian investments is, in some cases, subject to withholding tax. The unequal tax treatment of repatriated income may affect the funding decisions of Australian entities and place Australia at a competitive disadvantage internationally. Lower, more uniform withholding tax rates would unwind these distortions.
• Simplifying the tax rules for Venture Capital Limited Partnerships (VCLPs) and streamlining Government administration of the regime would reduce barriers to fundraising.
• GSTis not levied on most financial services. This may contribute to the financial system being larger than it otherwise would be.

Consultation and comments

The Treasurer said the Government intends to consult with industry and consumers before making any decisions on the recommendations. Written submissions are being sought from all stakeholders, including industry and members of the public. As a number of recommendations are the responsibility of the financial regulators – APRA, ASIC and the RBA – those submissions will be made available to these agencies unless the submitter indicates otherwise.

Comments close on 31 March 2015 and should be sent to: Senior Adviser, Financial System and Services Division, The Treasury, Langton Crescent, Parkes ACT 2600; email: fsi@treasury.gov.au. For enquiries, please call David Crawford on (02) 6263 2757.

Source: Murray Financial System Inquiry Final Report, http://fsi.gov.au/publications/final-report.

Bitcoin and ATO approach to past transactions

The ATO has finalised a number of its rulings (a GST Ruling and several Income Tax Determinations) relating to the application of the tax laws for Bitcoin and similar crypto-currencies.

The ATO says all these rulings have application to tax periods before their date of issue (ie 17 December 2014) as they discuss laws that were already operative. However, the Tax Commissioner will not generally apply compliance resources to tax periods that started before 1 October 2014 for goods and services tax (GST), or 1 July 2014 for other tax issues, for taxpayers that can show they have made a genuine attempt to determine the tax treatment of Bitcoin and then adopted a consistent position regarding that tax treatment in those past tax periods.

Rulings

Details of the rulings are as follows:

TD 2014/25

Is Bitcoin a “foreign currency” for the purposes of Div 775 of the ITAA 1997?

The ATO view is that Bitcoin is not a “foreign currency” for the purposes of Div 775 of the ITAA 1997. The Determination states that the Commissioner’s view is that the current use and acceptance of Bitcoin in the community is not sufficiently widespread that it satisfies the test in Moss v Hancock [1899] 2QB 111, nor is it a generally accepted medium of exchange as per Travelex Ltd v FCT (2008) 71 ATR 216. Accordingly, the Determination indicates that Bitcoin does not satisfy the ordinary meaning of money. Since foreign currency is defined as a currency other than Australian currency, the Commissioner states that Bitcoin is not a foreign currency under Div 775 as it is not legally recognised as a unit of account and form of payment by the laws of any other sovereign country. The Determination was previously issued as Draft TD 2014/D11 and is the same.

TD 2014/26

Is Bitcoin a “CGT asset” for the purposes of s 108-5(1) of the ITAA 1997?

The ATO considers that Bitcoin holding rights amount to property and as such it is a “CGT asset” for the purposes of s 108-5(1) of the ITAA 1997. According to the Determination, the disposal of Bitcoin to a third party will usually give rise to CGT event A1 and taxpayers will be assessed on capital gains made. However, in circumstances where the Bitcoin is considered to be a personal use asset (ie kept for personal enjoyment or use) taxpayers may have access to s 118-10(3). The Determination was previously issued as Draft TD 2014/D12 and is the same.

TD 2014/27

Is Bitcoin trading stock for the purposes of s 70-10(1) of the ITAA 1997?

The ATO considers that when held for the purpose of sale or exchange in the ordinary course of a business, Bitcoin is trading stock for the purposes of s 70-10(1) of the ITAA 1997. The Determination states that this is evident from the context in John v FCT (1989) 20 ATR 1 (in which the definition of trading stock was considered) that the trading activity to which the definition applies involves the passing of a proprietary interest in the things traded. In addition, it is also clear from FCT v Sutton Motors (Chullora) Wholesale Pty Ltd (1985) 16 ATR 567 that intangible property such as shares are capable of being trading stock. The Determination was previously issued as Draft TD 2014/D13 and is the same.

TD 2014/28

FBT: is the provision of Bitcoin by an employer to an employee in respect of their employment a property fringe benefit for the purposes of s 136(1) of the FBTAA?

The ATO considers that the provision of Bitcoin by an employer to an employee in respect of their employment is a property fringe benefit for the purposes of s 136(1) of the FBTAA. The Determination states that Bitcoin is not tangible property for the purposes of the FBTAA nor is it real property, and Bitcoin holding rights are not a chose in action. However, it states that as the definition of intangible property includes “any other kind of property other than tangible property”, Bitcoin will fall within this definition. In addition, the Determination indicates that since Bitcoin is not money but is considered property for tax purposes, it satisfies the definition of a “non-cash benefit” and is excluded from PAYG withholding, which in turn means that it is not “salary or wages”. The Determination was previously issued as Draft TD 2014/D14 and is the same.

GSTR 2014/3

The GST implications of transactions involving Bitcoin

In this GST Ruling, the ATO considers whether Bitcoin is “money” as defined in s 195-1 of the GST Act and whether it is a “financial supply” under s 40-5(1) of the GST Act. The Ruling states that a transfer of Bitcoin is a “supply for GST purposes” as Bitcoin is not “money” for the purposes of the GST Act. It also states that a supply of Bitcoin is not a “financial supply” and therefore is not input taxed. Further, the Ruling indicates that a supply of Bitcoin is a taxable supply under s 9-5 if the other requirements are met and the supply of Bitcoin is not GST-free under Div 38 (eg as a supply to a non-resident for use outside Australia). It also states that a supply of Bitcoin in exchange for goods or services will be treated as a barter transaction. The Ruling states that Bitcoin is not goods and cannot be subject of a taxable importation under para 13-5(1)(a), however, an offshore supply of Bitcoin can be a taxable supply under the “reverse charge” rules in Div 84. In addition, it states an acquisition of Bitcoin will not give rise to input tax credits under Div 66 (ie input tax credits for certain acquisitions of second-hand goods), nor will it be a supply of a voucher under Div 100. The Ruling was previously issued as Draft GSTR 2014/D3 and contains changes. It includes eight examples outlining the various GST consequences of using Bitcoin in exchange for goods or services.

Updated ATO guidance paper

Following the release of the Taxation Determinations and GST Ruling listed above, the ATO updated its guidance paper entitled Tax treatment of crypto-currencies in Australia – specifically bitcoin. The ATO says that where other crypto-currencies have the same characteristics as Bitcoin, the information in its guidance paper applies equally to the taxation treatment for other crypto-currencies. The guidance covers issues such as: record-keeping required re Bitcoin; using Bitcoin to pay for personal transactions; mining Bitcoin; Bitcoin exchange transactions; and disposing of Bitcoin acquired for investment.

The guidance paper (dated 18 December 2014) is available on the ATO website at https://www.ato.gov.au/General/Gen/Tax-treatment-of-crypto-currencies-in-Australia—specifically-bitcoin.

Sources: TD 2014/25, http://law.ato.gov.au/pdf/pbr/td2014-025.pdf;
TD 2014/26, http://law.ato.gov.au/pdf/pbr/td2014-026.pdf;
TD 2014/27, http://law.ato.gov.au/pdf/pbr/td2014-027.pdf;
TD 2014/28, http://law.ato.gov.au/pdf/pbr/td2014-028.pdf;
GSTR 2014/3, http://law.ato.gov.au/atolaw/view.htm?DocID=GST/GSTR20143/NAT/ATO/00001.

Are your superannuation savings goals on track?

Superannuation should never be a “set and forget” strategy. With the new calendar year here, now is a good time to review circumstances and set some new goals to help boost retirement savings. There have been a few changes to superannuation, which applied from 1 July 2014. The following are some considerations.

Superannuation guarantee rate

On 1 July 2014, the super guarantee rate increased to 9.5% (up from 9.25% for 2013–2014).

Contributions caps

The general concessional contributions cap is $30,000 for 2014–2015 (up from $25,000 for 2013–2014).

Concessional cap for over 60s/50s

A higher concessional contributions cap of $35,000 applied for 2014–2015 for people aged 59 years or over on 30 June 2013, instead of the general concessional cap ($30,000 for 2014–2015). For 2014–2015, this temporary concessional cap of $35,000 also applied for those aged 49 years or over on 30 June 2014. This temporary $35,000 concessional cap (not indexed) will cease when the general cap reaches $35,000 through indexation (expected to be 1 July 2018).

Non-concessional contributions cap

This increased to $180,000 (or $540,000 every three years for those under age 65) from 2014–2015 (up from $150,000 for 2013–2014 or $450,000 over a three-year period).

Government co-contribution

A 50% matching applies whereby the Government will pay a co-contribution up to a maximum of $500 for a $1,000 eligible personal contribution for individuals with total incomes up to $34,488 for 2014-15 (phasing down for incomes up to $49,488).

Other considerations

Other issues to consider include the following:

• reviewing arrangements to salary sacrifice super with employers;
• protecting super accounts from identity crime (eg changing passwords for accounts that can be viewed online);
• consolidating multiple super fund accounts to save on super fund fees. However, there may be good reasons to maintain multiple accounts (these should be documented); and
• checking insurance and investment options to ensure they are still relevant.

Practitioners may want to also review the ATO’s Key superannuation rates and thresholds publication for more super issues to consider. The publication (last updated 8 December 2014) is available on the ATO website at https://www.ato.gov.au/Rates/Key-superannuation-rates-and-thresholds.

GST treatment of credit card surcharges – GSTR 2014/2

GST Ruling GSTR 2014/2 (issued on 17 December 2014) outlines the GST treatment of surcharges imposed on credit card transactions, surcharges imposed on debit card transactions, and fees payable for ATM services. It outlines the following GST treatment in relation to the services and transactions.

Credit card surcharge

The Ruling indicates that a credit card surcharge imposed by a merchant on a customer in respect of a credit card transaction forms part of the price for a supply of goods or services to the customer. The surcharge is part of the consideration payable by the customer for the supply of the goods or services made by the merchant, and where a surcharge is imposed on payment for more than one supply, the merchant can use any fair and reasonable method to apportion the surcharge.

In addition, the Ruling states that where an entity may act as an agent for a third party that supplies goods or services to the customer, but makes a separate supply to the customer of processing the transaction, the surcharge does not form part of the consideration for the supply of goods or services made by the third party. It also states that where a customer uses a credit card to satisfy an outstanding liability for a supply of goods or services and incurs a credit card surcharge, the surcharge is additional consideration for the supply of goods or services, and may cause an adjustment event.

According to the Ruling, where an amount is required to be paid by a specified date, and an additional fee or charge becomes payable if the amount is not paid by that date, the additional fee or charge is consideration for the supply of an interest in or under a credit arrangement. It is therefore consideration for an input taxed financial supply. It also states that where a customer incurs a credit card surcharge when paying for both the goods or services and the additional fee or charge under the credit arrangement, the merchant can use any fair and reasonable method to apportion the surcharge between the supplies.

The Ruling also states that a credit card surcharge imposed on a customer in respect of a credit card transaction used for a payment, or the discharging of a liability to make a payment, of an Australian tax or an Australian fee or charge subject to Div 81 has the same treatment as the underlying payment of the tax, fee or charge.

Debit card surcharge

According to the Ruling, a debit card surcharge imposed by the merchant on a customer in respect of a debit card transaction to pay for the supply of goods or services forms part of the price for the supply of the goods or services to the customer. It also states that where a customer uses a debit card to satisfy an outstanding liability for a supply of goods or services and incurs a debit card surcharge, the surcharge is additional consideration for the supply of goods or services, and may constitute an adjustment event.

The Ruling also outlines the following:

• a merchant that imposes a surcharge on a customer for withdrawing cash through a debit card transaction makes a taxable supply where the requirements of s 9-5 are satisfied. The merchant is supplying the customer with the service of accessing the relevant payment system through the use of the terminal to authorise the transaction.
• a fixed debit card surcharge imposed by a merchant on a customer in respect of a debit card transaction that includes both a supply of goods or services and a cash withdrawal forms part of the consideration for the underlying supply of the goods or services.

ATM services

The Ruling states that a fee imposed for an ATM service listed under subreg 40-5.09(4A) of the GST Regulations is consideration for an input taxed supply. However, a facility that is used to access a payment system other than the ATM system (ie EFTPOS) is not used to provide an ATM service under subreg 40-5.09(4A).

Changes from the Draft Ruling

The Ruling was previously issued as Draft GSTR 2014/D2 and contains changes. It includes 10 examples which considers various scenarios and outlines the GST treatment of the various scenarios.

Date of effect

This Ruling applies both before and after its date of issue.

ATO ID 2008/116 withdrawn

On 17 December 2014, the ATO withdrew ATO ID 2008/116 (GST and credit card surcharge for payment of an Australian tax, fee or charge). The ATO said the ID has been replaced by GSTR 2014/2 (see above). The withdrawn ID is available on the ATO Legal Database at http://law.ato.gov.au/atolaw/view.htm?docid=%22AID%2FAID2005203%2F00001%22.

Source: GST Ruling 2014/2, http://law.ato.gov.au/atolaw/view.htm?docid=%22GST%2FGSTR20142%2FNAT%2FATO%2F00001%22.

Tax Inspector’s proposed new complaint-handling powers

The Tax and Superannuation Laws Amendment (2014 Measures No 7) Bill 2014 was introduced in the House of Reps on 4 December 2014. It proposes to amend the Inspector-General of Taxation Act 2003 by transferring the tax investigative and complaint handling function of the Commonwealth Ombudsman to the Inspector-General of Taxation, and merging that function with the Inspector-General’s existing function of conducting systemic reviews. This provides taxpayers with a specialised complaint-handling process for taxation matters and aligns the systemic review role of the Inspector-General with the correlative powers and functions of the Ombudsman.

According to the Government, the Inspector-General is well-suited to have the sole jurisdiction to investigate individual complaints about the administration of taxation law matters, in addition to the current systemic function. It said that under the changes the Inspector-General will be given all of the powers and functions necessary to comprehensively investigate and handle complaints relating to the administration of taxation laws (of both a systemic and individual nature).

The Bill also proposes consequential amendments to the ITAA 1936 and the TAA. For example, key proposed amendments will allow the Inspector-General to request that a person making a complaint quote their TFN to facilitate the resolution of the matter with the ATO. The changes will also allow ATO officers to provide taxpayer-protected information to the Inspector-General for the purposes of investigating or reporting a matter. Consequential amendments are also proposed to the Tax Agent Services Act 2009 so that members and associated staff at the Tax Practitioners Board may also provide information to the Inspector-General for these purposes.

The amendments are proposed to commence the later of the fourteenth day after the Bill receives Royal Assent or 1 May 2015.

The regulations in the Ombudsman Act 1976 that provide for the payment of fees and allowances to persons for attending or appearing as witnesses will also apply as if they were regulations under the Inspector-General of Taxation Act. The Governor-General may still make regulations that provide for the payment of fees and allowances to persons for attending or appearing before the Inspector-General or a member of the Inspector-General’s staff.

The proposed amendments were announced in the 2014–2015 Federal Budget.

Other amendments

The Bill also makes the following amendments:

CGT exemption for compensation and insurance

Amends the ITAA 1997 to ensure that:

• a CGT exemption is available to certain trustees and beneficiaries who receive compensation or damages;
• a CGT exemption is available to trustees of complying superannuation entities for insurance policies relating to illness or injury; and
• the CGT primary code rule applies to capital gains and capital losses that are disregarded by complying superannuation entities, arising from injury and illness insurance policies, life insurance policies and annuity instruments.

Super excess non-concessional contributions – option to withdraw

Amends the ITAA 1997 and the TAA to make the taxation treatment of individuals with excess non-concessional superannuation contributions fairer.

Super fund mergers

Amends the ITAA 1997 to ensure that individuals whose superannuation benefits are involuntarily transferred from one superannuation plan to another, without their request or consent, are not disadvantaged through the transfer.

Proceeds of crime order – tax info disclosure

Amends the TAA to allow ATO officers to record or disclose protected information to support or enforce a proceeds of crime order. It also clarifies that all orders relating to unexplained wealth made under a state or territory law are included in the definition of “proceeds of crime order”.

Exploration development incentive

The amendments in the Bill, together with the Excess Exploration Credit Tax Bill 2014 (also introduced in the House of Reps on 4 December 2014), introduce an exploration development incentive by amending the ITAA 1997 and other tax legislation to provide a tax incentive to encourage investment in small mineral exploration companies undertaking greenfields mineral exploration in Australia.

Miscellaneous amendments

The Bill makes a number of miscellaneous amendments to the taxation and superannuation laws. The amendments include style changes, the repeal of redundant provisions, the correction of anomalous outcomes, and corrections to previous amending Acts.

Note the Bill will not be debated until after Parliament resumes on 9 February 2015.

Source: Tax and Superannuation Laws Amendment (2014 Measures No 7) Bill 2014, www.aph.gov.au/Parliamentary_Business/Bills_Legislation/Bills_Search_Results/Result?bId=r5389

Important: Clients should not act solely on the basis of the material contained in Client Alert. Items herein are general comments only and do not constitute or convey advice per se. Also changes in legislation may occur quickly. We therefore recommend that our formal advice be sought before acting in any of the areas. Client Alert is issued as a helpful guide to clients and for their private information. Therefore it should be regarded as confidential and not be made available to any person without our prior approval.

Project DO IT nearing end, taxman focus on non-disclosure

The ATO has responded to fears expressed by some taxpayers that disclosing previously undeclared offshore income and assets could set them up for future tax investigations. The ATO has reassured taxpayers that disclosing under Project DO IT will not give them a “red flag”. ATO Deputy Commissioner Michael Cranston said the ATO was far more concerned with taxpayers who don’t disclose than those who do.

TIP: Project DO IT provides individuals with a last chance opportunity to declare their overseas assets and income to the ATO if they have not done so previously to avoid steep penalties and the risk of criminal prosecution for tax avoidance. As at 6 November 2014, some 1,000 individuals have made disclosures worth more than $190 million in income and over $1.1 billion in assets. The last day to come forward under Project DO IT is 19 December 2014.

Inbound tour operators to contact the ATO

The ATO has issued a statement on a Full Federal Court case in which the ATO Commissioner was successful in arguing that a supply made by an Australian inbound tour operator (ITO) to overseas customers was fully subject to GST.

Although the decision relates to specific facts, the ATO said the Commissioner remains of the view that the decision applies to all ITOs that:

• transact as principal (and not as an agent of a non-resident travel agent); and
• are engaged by non-resident travel agents to enter into contracts with Australian providers for the provision of products to non-resident tourists.

The ATO was of the view that, under the Court’s reasoning, the supplies made by the ITOs to their non-resident travel agent clients are properly characterised as supplies of promises to ensure products are provided, and the supplies are wholly taxable.

TIP: The Commissioner has requested that all ITOs that have transacted as principal and have an outstanding amount due to the ATO to contact the ATO within 28 days of the publication of the statement (ie by 10 December 2014) to discuss payment of the amount owed. ITOs that consider that they are not affected by the decision on the basis that they operate as an agent are also asked to contact the ATO within the 28-day period.

Tax win for retirement village operators

The ATO has issued a statement in response to a decision of the Administrative Appeals Tribunal (AAT) which ruled that a taxpayer that owns and manages a number of retirement villages was entitled to a deduction for payments it was contractually required to make to “outgoing residents”. The AAT concluded that such payments were properly characterised as an ordinary part of carrying on the business, and were not capital or of a capital nature and therefore deductible under the tax law.

TIP: The ATO said it will amend Taxation Ruling TR 2002/14 to reflect the Tribunal’s decision. It said the amendment will confirm that, where a retirement village operator makes a payment to an outgoing resident (or to their legal personal representative) that represents a share of any increase in the entry price payable by a new resident (ie the difference between the initial entry price paid by the outgoing resident and the entry price payable by the new resident), such payments will be deductible. In the meantime, the ATO said taxpayers may request that the Commissioner amend an assessment.

Crowdfunding could have GST implications, says ATO

The ATO has released information on its views on the GST treatment of crowdfunding. Crowdfunding involves using the internet and social media to raise funds for specific projects or particular business ventures. Typically the promoter of the project or venture will engage an intermediary to operate an online platform that allows the promoter to connect to potential funders. Various models are used to attract funding.

For example, in a “donation-based” model, where funders receive nothing apart from having their contribution to a project or business venture acknowledged by the promoter, the promoter will have no GST liability. However, the intermediary will be treated to have made a taxable supply of services to the promoter that is subject to GST. But in this case, the promoter will be entitled to a GST credit for the services he or she acquires from the intermediary.

Couple refused small business tax concession

The AAT has recently affirmed a decision of the Tax Commissioner refusing a couple’s request to apply a capital gains tax concession in relation to the sale of their business.

The husband and wife were the sole shareholders and directors of a private healthcare company which they had sold, via their shareholding, for some $14 million in the 2007 income year. They claimed they were entitled to the tax concession in respect of the capital gain they made on the sale of their shares. In particular, they claimed they satisfied that relevant asset test to be eligible for the concession on the basis that the company had a liability just before the sale to pay them eligible termination payments totalling some $2.75 million.

In rejection of the couple’s argument, the AAT confirmed that the eligible termination payments paid to the couple were not to be taken into account for the purposes of the relevant asset test in determining whether they qualified for the small business CGT concession. The couple have appealed to the Federal Court against the decision.

Employee share scheme reform on the way

The Government is reforming the taxation of employee share schemes to bolster entrepreneurship in Australia and support innovative start-up companies. It said the changes to the tax treatment of employee share schemes that were introduced by the former Government in 2009 have effectively brought to a halt the use of such schemes for start-up companies in Australia.

The Government said it would unwind those 2009 changes, beginning with reversing the changes made to the taxing point for options, to ensure that employees may opt to have “discounted” options taxed when they are exercised (ie converted to shares), rather than upon acquisition by the employee. This change would apply to employees of all companies.

The Government also announced that it will allow employee share scheme options or shares that are provided to employees at a small discount by eligible start-up companies not to be subject to upfront taxation, provided that the shares or options are held by the employees for at least three years.

Options issued to employees by eligible start-up companies under certain conditions will have the employee’s taxation events deferred until the sale of the shares. In addition, shares issued to employees by eligible start-up companies at a small discount will have those discounts exempted from tax for the employees.

The Government will also extend the maximum time for tax deferral on discounted options and shares issued to employees by eligible start-up companies from the current seven-year period by a further eight years – that is, a 15-year deferral period.

The Treasurer is expected to consult widely on the draft legislation. The legislation is proposed to come into effect from 1 July 2015.

Important: Clients should not act solely on the basis of the material contained in Client Alert. Items herein are general comments only and do not constitute or convey advice per se. Also changes in legislation may occur quickly. We therefore recommend that our formal advice be sought before acting in any of the areas. Client Alert is issued as a helpful guide to clients and for their private information. Therefore it should be regarded as confidential and not be made available to any person without our prior approval.

Subsidy to encourage employers to hire mature workers

The Tax and Superannuation Laws Amendment (2014 Measures No 5) Bill 2014 was introduced in the House of Representatives on 4 September 2014. It proposes to amend the Income Tax Assessment Act 1997 (ITAA 1997) and the Taxation Administration Act 1953 (TAA 1953) to abolish the mature age worker tax offset from the 2014–2015 income year and later income years. A new expenditure program being delivered by the Department of Employment, Restart, will provide alternative support by way of subsidy of up to $10,000 to employers who hire mature age job seekers.

The new subsidy was announced in the 2014–2015 Federal Budget. Information on the Restart program is available at www.experiencepays.gov.au.

Offshore income tax “amnesty” nearing its end

The Tax Commissioner Chris Jordan earlier this year announced an initiative to allow eligible taxpayers to come forward and voluntarily disclose unreported foreign income and assets. In announcing the initiative, known as “Project DO IT: disclose offshore income today”, the Commissioner warned that it provides a last chance opportunity for those who haven’t declared their overseas assets and income to come back into the tax system before 19 December 2014, and to avoid steep penalties and the risk of criminal prosecution for tax avoidance.

Mr Jordan urged taxpayers with offshore assets to declare their interests ahead of a global crackdown on people using international tax havens. He emphasised that as governments around the world step up their data sharing and harness powerful technology to find tax cheats – and as the G20 continues to promote global tax transparency – the concept of the “tax haven” is dying and that it is just a matter of time before such tax cheats get caught.

Just recently, the ATO announced a data-matching program targeting offshore bank accounts. Under the program, the ATO will request and collect account details of bank customers from various financial institutions to identify Australian resident taxpayers with offshore bank accounts which may evidence undeclared income and/or gains for the years ended 30 June 2012 to 30 June 2015. The program is designed to help the ATO identify Australian resident taxpayers who may be outside the tax system, and increase transparency of the worldwide dealings of Australian resident taxpayers.

Project DO IT covers both “inadvertent” and “intentional” actions to hide offshore income and/or gains. The ATO has advised that where taxpayers may be unsure as to their eligibility for the initiative, they can contact the ATO’s Project DO IT team to discuss the issue. This can be done anonymously.

Under Project DO IT, people disclosing their offshore assets will:

• only be assessed for applicable (open) periods of review (generally only the last four years);
• be liable for a shortfall penalty of 10% (low-level disclosures will attract minimal or no penalties);
• be liable for full shortfall interest charges;
• not be entitled to utilise any losses that arose in years for which they are not being assessed;
• be able to seek assurance regarding the ATO’s tax treatment of repatriated offshore assets;
• be able to enter into a settlement deed to obtain additional certainty (where circumstances call for additional surety); and
• not be investigated or referred for criminal investigation by the ATO on the basis of their disclosures.

According to the ATO, it has received a “strong response” so far with many taxpayers coming forward to make a disclosure. Disclosures received include undeclared income from taxpayers who:

• have offshore pensions and property;
• want to repatriate funds from offshore bank accounts; and
• have offshore arrangements inherited from parents or other relatives.

The ATO has also revealed that most people getting in touch are reporting accounts in Switzerland, Israel, Lichtenstein, the Netherlands, South Africa and Hong Kong.

To receive the benefits of Project DO IT, the ATO says taxpayers must make a “truthful disclosure” before 19 December 2014 (or seek an extension). The ATO has issued a “disclosure statement” (available on the ATO website) to facilitate this. Until the taxpayer lodges, the ATO said its normal compliance activities will continue. If the taxpayer is detected first, they will not be able to participate.

The ATO acknowledged that there may be circumstances where it could take some time to get all the required records. However, it said if taxpayers need time, they must inform the ATO as soon as possible that they want to make a disclosure. To do this, they must lodge an “expression of interest” to participate in the initiative.

Sources: ATO publication, Project DO IT: Disclose offshore income today, 21 July 2014, www.ato.gov.au/General/Correct-a-mistake-or-dispute-a-decision/In-detail/Project-DO-IT/Project-DO-IT; ATO media release, 30 June 2014, www.ato.gov.au/Media-centre/Media-releases/ATO-steps-up-data-mining-program-to-target-offshore-tax-evaders; Commonwealth Gazettes, Banking Transparency (2012-2015) (C2014G01381, 21 August 2014), www.comlaw.gov.au/Details/C2014G01381.

Other amendments

The Bill also proposes the following:

• amend the ITAA 1997 by repealing Subdiv 61-N to abolish the seafarer tax offset from the 2015–2016 income year and later income years. A company is entitled to the seafarer tax offset in an income year in respect of an Australian resident individual if certain conditions are met. This was announced in the 2014–2015 Federal Budget;
• amend the ITAA 1997 to reduce the rates of the tax offset available under the R&D tax incentive by 1.5 percentage points. The higher (refundable) rate of the tax offset (available to eligible entities with turnover of less than $20 million) will be reduced from 45% to 43.5% and the lower (non-refundable) rates of the tax offset (available to all other eligible entities) will be reduced from 40% to 38.5%. The Government says the reduction in the tax offset rates is consistent with its commitment to cut the company tax rate from 1 July 2015. This will apply to income years starting on or after 1 July 2014. The amendment was announced in the 2014–2015 Federal Budget;
• amend the ITAA 1997 to update the list of specifically listed deductible gift recipients. The changes would add Australian Schools Plus Ltd, East African Fund and The Minderoo Foundation Trust to the list.

Source: Tax and Superannuation Laws Amendment (2014 Measures No 5) Bill 2014, www.aph.gov.au/Parliamentary_Business/Bills_Legislation/Bills_Search_Results/Result?bId=r5329.

Doctor obtains tax relief for olive-growing activities

The Administrative Appeals Tribunal (AAT) has allowed a taxpayer relief from the non-commercial loss provisions for certain income years concerning his carrying on of an olive growing and olive oil production business on the basis that special circumstances applied.

Background

The taxpayer is a medical practitioner who, for the last 15 years or so, has also carried on an olive growing and olive oil production business. For the 2010 to 2014 income years inclusive, the AAT said the taxpayer applied to the Commissioner for relief from the non-commercial loss provisions (the provisions prevent the taxpayer from deducting his olive oil business losses from his other assessable income). In practical terms, unless he is granted relief, he has to wait until the olive oil business starts to generate profits before he can claim those losses.

Losses cannot be claimed in the year they are incurred unless the Commissioner exercises the discretion in s 35-55 of the ITAA 1997 that the non-commercial losses rules do not apply. That discretion can only be exercised where the taxpayer applies for a private ruling on the exercise of the Commissioner’s discretion. That means that the Commissioner’s decision not to exercise his discretion in the taxpayer’s favour is a private ruling. The AAT said the exercise of the discretion in s 35-55 was the only way the taxpayer could be relieved from the non-commercial loss provisions because his taxable income exceeded $250,000 in each of the relevant years.

The Commissioner refused the taxpayer’s application for relief. The taxpayer’s objection against the refusal was disallowed, and he applied to the AAT for review of the objection decision.

Decision

The essential issue before the AAT was whether the Commissioner’s decision not to allow the taxpayer immediate access to the losses he incurred in the relevant years was the correct or preferable decision.

The olive-growing scheme in question comprised over 200 pages of content. After reviewing the Commissioner’s private ruling, the AAT said it was not helpful that the schedule of financial information included by the Commissioner in the scheme outline did not accurately reflect the figures provided on the taxpayer’s behalf in the ruling application. The AAT observed that it seemed “the Commissioner’s officers took a regrettably inattentive approach to the formulation of the scheme. That has made the review task more difficult than it needs to be”. The AAT also noted that the Commissioner did not clearly “and with precision” identify the scheme in his private ruling. Against that background, the AAT considered it was difficult to accept the Commissioner’s complaints about the taxpayer’s approach to the case.

The AAT considered previous case law consideration of s 35-55 and then turned to a consideration of whether special circumstances applied in the taxpayer’s case to allow the Commissioner’s discretion to be exercised. The special circumstances included the following: infestations of the olive trees by the olive lace bug; prolonged drought; destruction of olive trees by a grass fire; extraordinary challenges facing the olive oil industry (glut of olives, low price etc); serious illness of the taxpayer’s wife (the AAT accepted she was “a highly qualified member of the team and an experienced oil maker and blender”). The AAT considered that all of the above, except the extraordinary challenges facing the olive oil industry, constituted special circumstances in the taxpayer’s case.

One of the Commissioner’s arguments was that, at the time of the ruling application, there was no assertion by the taxpayer that a tax profit would otherwise have been made but for the special circumstances, or the amount of the tax profit. The AAT rejected this saying it was a direct consequence of the fact that the Commissioner’s approved form asks no questions about tax profit. “It is disappointing that a taxpayer should be criticised on that basis”, the AAT said.

Having regard to the impact of the special circumstances on the taxpayer’s business activity in the excluded years, and to the financial outcomes that could have been expected had those special circumstances not occurred, the AAT said it was satisfied that it would be unreasonable to apply the rule in s 35-10(2) in each of the 2010, 2011, 2012 and 2013 income years, but not the 2014 year as it considered that any losses incurred in the 2014 year could not be attributed to the ongoing impact of special circumstances. The AAT therefore concluded that the discretion in s 35-55(1) should be exercised due to special circumstances.

AAT recommends Commissioner makes some changes

The AAT also made several recommendations to the Commissioner as a result of issues raised during the proceedings. These were that the Commissioner:

• considers the use of an alternative approved form for applications of this nature, to take them out of the private ruling regime;
• ensures, as far as possible, that any alternative approved form:

–        asks applicants to provide all the information the Commissioner considers necessary for a proper consideration of the application;

–        takes into account the legislative amendments enacted in 2009 (ie the income requirement which means that taxpayers with taxable income over $250,000 have to rely on the Commissioner’s discretion under s 35-55]).

• provides additional guidance to officers in the formulation of schemes for the purpose of private rulings.

Re Bentivoglio and FCT [2014] AATA 620, www.austlii.edu.au/au/cases/cth/AATA/2014/620.html.

Tax claims for R&D costs mostly allowed

In a lengthy and factually complex decision, the AAT has allowed most of a taxpayer’s claims for R&D expenditure at the 125% rate, but disallowed other claims in respect of overlapping expenditure.

Background

The taxpayer, referred to in the case as GHP 104 160 689 Pty Ltd, was a company previously known as Xstrata Holdings Pty Ltd prior to the merger of Xstrata and the Glencore Group. The AAT said the taxpayer has mining operations in a number of sites in Australia. Its R&D activities were directed to developing new knowledge and increasing the effectiveness of copper and lead-zinc concentrators at sites at Mt Isa, Ernest Henry and McArthur River and a copper smelter at Mt Isa.

Between 2003 and 2007, the taxpayer undertook R&D, conducted by way of plant trials, to test various possible improvements to its copper and lead concentrators and its copper smelter. Many of the plant trials ran over several months. A “plant trial” refers to R&D undertaken by way of testing one or more altered integers of a plant under ordinary operational conditions to assess the changed integers’ impacts on the operation of a plant as a whole.

The taxpayer sought to deduct a considerable part of its expenditure incurred during those plant trials at the premium rate of 125%. For each of the relevant tax years, the Commissioner disallowed many, but not all, items of expenditure claimed to be “research and development expenditure” and, as such, deductible at the premium rate. The taxpayer sought review of these decisions.

The Commissioner’s principal submission was that all of the taxpayer’s relevantly disputed expenditure was expenditure “incurred by the company in acquiring or producing materials or goods to be the subject of processing or transformation by the company in research and development activities” and was thus within the meaning that s 73B(1) gives to the term “feedstock expenditure” and was therefore not deductible at the premium rate. “Feedstock expenditure” is expressly excluded from the statutory definition of “research and development expenditure”. The Commissioner also argued that, due to an overlap of the taxpayer’s R&D activities at its Mt Isa copper concentrator and Mt Isa smelter, certain expenditure became “feedstock expenditure” and was not deductible at the 125% rate.

Decision

In the AAT’s view, the text of the relevant provisions, read as part of s 73B, allowed it to ascertain the meaning conveyed by the definition of “feedstock expenditure” without any requirement to resort to extrinsic materials.

The AAT said things “which are acquired to be the subject of some process in an activity cannot share a common identity with those acquired to subject them to that activity”. The exception only applies to expenditure on such goods or materials as are acquired or produced in order that they will be subjected to processing or transformation in the activity. The AAT considered the following example to illustrate the point.

“Assume an eligible company that manufactures food products submits its plans for R&D activities in order to test whether a different mechanism might enhance its production of ground coffee. To conduct that R&D it buys new parts for its industrial scale grinding machine and uses the same coffee beans it ordinarily grinds.

Assume that the new grinding mechanism suffers at least minimal wear while grinding the coffee beans in the course of these R&D activities. On the Commissioner’s case that is enough to effect the coffee grinder’s mechanism’s ‘transformation’.

The result, on the Commissioner case, is that the company’s expenditure not only on the coffee but also on the coffee grinding mechanism is ‘feedstock expenditure’ incurred by the company ‘in acquiring or producing materials or goods to be the subject of processing or transformation by the company in research and development activities’. That conclusion sounds decidedly odd.”

In the AAT’s view, the inter-relationship between the various definitions within the feedstock scheme provided a “statutory lens through which the meaning to be attributed to the definition of ‘feedstock expenditure’ can be viewed and ascertained”. In turn, the AAT said that provided “an additional foundation for rejecting the construction of the definition pressed upon the AAT by the Commissioner”.

The AAT considered that the legislation facilitated a distinction between deductibility for expenses incurred by a company in acquiring the goods and materials to be the subject of processing or transformation for which the premium rate is denied, and the enhanced deductibility which is available for expenditure otherwise in the R&D activities.

The AAT found that the entire relevant R&D undertaken by the taxpayer involved high levels of technical risk within the meaning of s 73B of the Income Tax Assessment Act 1936 (ITAA 1936). After analysis of the complex factual situation, and application of the law, especially in relation to the principles of statutory interpretation, the AAT was of the view the taxpayer was entitled to substantially succeed on the first principal issue, but it accepted the Commissioner’s argument on the overlap issue. The AAT therefore ordered that the Commissioner’s assessments be varied in accordance with its reasons.

Appeals update

The Commissioner has appealed to the Federal Court against the decision.

Re GHP 104 160 689 Pty Ltd and FCT [2014] AATA 515, www.austlii.edu.au/au/cases/cth/AATA/2014/515.html.

Compensation for providing domestic help taxable

The AAT has affirmed a decision of the Commissioner that a payment made to a taxpayer for compensation for domestic assistance was assessable as ordinary income under s 6-5 of the ITAA 1997.

Background

In February 1997, the taxpayer’s husband suffered a serious injury while white-water rafting during a team-building exercise organised by his employer. The husband was unable to work and the taxpayer gave up full-time work to become his carer. She continued to work part-time or on a temporary basis. In June 2012, the husband lodged a claim for compensation for domestic assistance under s 60AA of the Workers Compensation Act 1987 (NSW) in respect of the domestic assistance that the taxpayer had provided to her husband during the period 1 January 2002 to 12 April 2012.

In November 2012, the Workers Compensation Commission (WCC) awarded the taxpayer the sum of $179,116 (“the compensation payment”). The taxpayer received the compensation payment as a lump sum in the 2013 income year and lodged a private ruling application with respect to the payment. In July 2013, the Commissioner issued a private ruling stating the compensation payment was assessable income for the purposes of s 6-5 of the ITAA 1997. The taxpayer objected and the Commissioner disallowed the objection in full.

The taxpayer contended the lump sum was in the nature of capital and was not income according to ordinary concepts. It was also contended that the lump sum should be characterised as a receipt of capital by the taxpayer as the lump sum was not earned by her; was not expected by her; was not relied upon by her; did not have any element of periodicity, recurrence or regularity; was not payment for services rendered; was not in substitution for income; and was not for financial support.

The Commissioner contended the compensation payment had the character or was in the nature of ordinary income and was therefore assessable as ordinary income under s 6-5. The Commissioner argued the amount of the compensation payment was calculated by reference to the numbers of hours of gratuitous domestic assistance that the taxpayer provided to her husband during the period 1 January 2002 to 12 April 2012 as determined by the WCC. The Commissioner considered the payment was accordingly made for personal services rendered by the taxpayer. Further, the Commissioner argued that the compensation payment was neither calculated nor intended to reflect any loss or earning capacity on the part of the taxpayer and therefore there was no basis for arguing that the payment was a receipt of a capital nature.

The AAT said the sole issue for determination was whether the payment made to the taxpayer was assessable as ordinary income under s 6-5.

Decision

Having regard to the case law, the facts referred to in the ruling application and specifically the manner in which the WCC determined the amount to be paid in compensation, the AAT concluded the compensation payment was assessable as ordinary income under s 6-5.

After consideration of s 60AA of the Workers Compensation Act, the AAT was of the view that the purpose of the compensation, in the case of gratuitous domestic help, was to ensure that the care giver was directly provided with a sufficient payment to cover her lost income. It said this was achieved through the mechanism of making a payment directly to the care giver only in circumstances where she had lost income or foregone employment as a result of providing that assistance. The AAT was also of the view that the compensation payment was a reasonable substitute for a payment which the care giver might have received from the injured worker if the care giver had not chosen to provide those services gratuitously.

The AAT did not accept the contention that the compensation payment was made to compensate the taxpayer for a loss of earning capacity. It said the facts indicated the taxpayer did not suffer a loss of earning capacity. She did not suffer an injury that prevented her from being able to work. Rather, it said she elected to voluntarily resign from her full-time employment so as to provide domestic assistance to her husband. The AAT said on no basis could this be described as a loss of income earning capacity – rather, it was a loss of income. The AAT further noted there was no finding by the WCC that the taxpayer had suffered a loss of earning capacity.

While the payment as a lump sum could be suggestive of a capital payment, the AAT said that fact alone did not mandate a conclusion that it was of a capital nature. It said it will very much depend on all the relevant circumstances. Furthermore, the AAT said it was clear from the case law that a lump sum payment representing lost earnings is assessable income. Accordingly, the Commissioner’s decision was affirmed.

Re Riley and FCT [2014] AATA 664, www.austlii.edu.au/au/cases/cth/AATA/2014/664.html.

Perfecting a security interest over corporate property

The Federal Court has held that an SMSF trustee was merely an unsecured creditor in relation to a commercial loan to a company after finding that its security interest had not been registered in time on the Personal Property Securities Register (PPSR) to avoid the interest vesting in the company (in liquidation).

On 24 December 2013, the trustees of the SMSF (the applicants) agreed to lend $250,000 to Australian Gaming and Entertainment Ltd, a Perth-based public company (the company). The terms of the loan included a security agreement under which the company agreed to mortgage personal property in favour of the applicants. Some five months later, on 19 May 2014, the applicants registered their security interest on the Personal Property Securities Register (PPSR) pursuant to the Personal Property Securities Act 2009 (PPSA). The company was placed into voluntary administration on 26 May 2014 with a single asset, $860,000 in a bank account.

The Court held that the applicants’ security interest was not valid and enforceable against the company. It followed that the security interest vested in the company (in liquidation) pursuant to s 588FL of the Corporations Act 2001 with the result that the trustees of the SMSF were unsecured creditors in relation to the outstanding $348,713 debt. Because of the time at which the security interest was registered relative to the commencement of the voluntary administration of the company (ie within six months), the Court ruled that the security interest would vest in the company pursuant to s 588FL of the Corporations Act, unless the applicants could establish that the security interest was not perfected only by means of registration. However, the Court rejected the applicants’ submission that the method of perfection was not by registration alone. As such, the Court ruled that the security interest was not valid and enforceable against the company.

Registration of security interests – time limits

The decision in Pozzebon highlights that a failure to register a security interest on the PPSR within 20 business days of the creation of a security agreement over corporate property leaves the lender/mortgagor in the hands of the gods in terms of later perfecting the security.

While there is no statutory obligation to register a security interest on the PPSR, it is necessary to perfect a security interest within certain time limits in order to obtain priority. Unperfected security interests vest in the grantor upon insolvency. Registration of a security interest before the grantor becomes bankrupt or goes into liquidation or administration will protect the security interest from the vesting rule. However, security interests in corporate property must be registered on the PPSR within 20 business days of the creation of the security interest or not more than six months before the administration or winding up of the grantor company. Otherwise, the unperfected security interest will vest in the grantor company in liquidation. It follows that a failure to register within 20 business days means that the security interest must have been registered at least six months before the administration or winding up of the grantor company. Given that things tend to happen very quickly when companies start to go pear-shaped, leaving the registration of a security interest until the first signs of trouble would typically make it difficult to satisfy the six-month test in s 588FL(2)(b)(i) of the Corporations Act.

As priority for security interests perfected by registration starts from the time the security interests became available for searching on the PPSR, it is imperative to register security interests as soon as possible. Indeed, it is even possible to register prospective security interests before the grantor and the secured party enter into a security agreement.

SMSF commercial loans – caution required

The Pozzebon case also serves as a warning to SMSF trustees chasing a higher yield that commercial loan investments are intrinsically problematic for most trustees in terms of the skills required to assess and manage the additional risks from such loans. Of course, a loan to a “related party” of an SMSF would face additional compliance challenges (eg the in-house asset rules), not to mention the potential for conflicts of interest. While there is nothing specific in the Superannuation Industry (Supervision) Act 1993 (SIS Act) to prevent an SMSF trustee from making a loan investment to an unrelated party, the trustees would still need to comply with the general SIS investment rules, eg the sole purpose test, trustee duties, arm’s length dealing. The risks associated with a commercial loan would also need to be suitable as part of the fund’s written investment strategy.

Therefore, at a minimum, a trustee would need to establish a detailed risk management plan for the life of a commercial loan. Remember, if your client is going to turn their SMSF into a bank, they also need to assess loan applications and take security like a bank (ideally over real property). This would typically require specialist accounting and legal advice in terms of assessing a loan investment and perfecting their security interest under the PPSA to help gain a priority status in the event of a default by the borrower.

Pozzebon (Trustee) v Australian Gaming and Entertainment Ltd [2014] FCA 1034; www.austlii.edu.au/au/cases/cth/FCA/2014/1034.html.

Important: Clients should not act solely on the basis of the material contained in Client Alert. Items herein are general comments only and do not constitute or convey advice per se. Also changes in legislation may occur quickly. We therefore recommend that our formal advice be sought before acting in any of the areas. Client Alert is issued as a helpful guide to clients and for their private information. Therefore it should be regarded as confidential and not be made available to any person without our prior approval.

Mining tax gone but watch for associated tax changes

Following the speedy passage of the mining tax repeal legislation, on 9 September 2014 the Government announced that it will be recommending to the Governor-General that he proclaim 30 September 2014 as the commencement date for Schedules 1 to 5 to the Minerals Resource Rent Tax Repeal and Other Measures Bill 2014 (which received Royal Assent on 5 September 2014 as Act No 96 of 2014). As a result, the Government said the Schedules will have the following dates of effect for most taxpayers:

• Schedule 1 – abolition of the mining tax from 1 October 2014, with taxpayers final MRRT year (even if it is a part year) ending on 30 September 2014;
• Schedule 2 – abolition of the company loss carry-back from 1 July 2013;
• Schedule 3 – reduction of the instant asset write-off from 1 January 2014;
• Schedule 4 – abolition of accelerated depreciation for motor vehicles from 1 January 2014; and
• Schedule 5 – abolition of geothermal energy concessions from 1 July 2014.

Taxpayers with a substituted accounting period may have a different date of effect.

The Government said the above dates are consistent with the Exposure Draft to the mining tax repeal legislation, and with the dates announced in November 2013 at the time of the introduction of the first mining tax repeal Bill to Parliament. The Government further added that the tax measures can be reconsidered in the context of the Government’s review into taxation through the Tax White Paper.

At the time of writing (15 September 2014), the Governor-General had yet to make the anticipated proclamations.

ATO administration and assistance

The Government said it has consulted with the ATO in relation to the administration of the measures and their dates of effect to ensure that assistance is provided to affected businesses. The ATO has issued a separate media release (dated 9 September 2014) outlining how this assistance will be provided. Key points are as follows.

Mining tax repeal

The effect of the repeal is that entities will not accrue further minerals resource rent tax (MRRT) liabilities from 1 October 2014. The ATO said it will be consulting with industry to implement the administrative approach.

Company loss carry-back provisions

The repeal of the company loss carry-back provisions applies from 1 July 2013 for most taxpayers. Companies who have claimed the offset and are now no longer eligible will be contacted by the ATO about their circumstances. The ATO said it will amend the affected assessments and taxpayers will not be subject to penalties and interest if payment is made “within a reasonable time”.

Small business instant asset write-off

The repeal of the provisions allowing small businesses asset write-off concessions apply from 1 January 2014 for most taxpayers (ie the write-off threshold falls from $6,500 to $1,000 from 1 January 2014). From 1 January 2014, only assets costing less than $1,000 (acquired and installed ready for use after 31 December 2013) will be eligible for immediate write-off. Assets costing $1,000 or more will need to be depreciated in the general small business pool. Assets costing less than $6,500 – acquired and installed ready for use by the small business between 1 July 2013 and 31 December 2013 – will still be eligible to be immediately written-off. Those taxpayers who have lodged their 2013–2014 tax returns under the previous law should now seek amendments to reduce their depreciation claim. The ATO said it does not intend to apply penalties or the shortfall interest charge (SIC) if taxpayers request to amend their assessments “within a reasonable period of time”.

Accelerated deduction for motor vehicles

From 1 January 2014, motor vehicles will only be immediately deductible if they cost less than $1,000. Motor vehicles costing $1,000 or more, acquired and available for use after 31 December 2013 will need to be depreciated in the general small business pool. Under previous legislation, small businesses could claim up to $5,000 as an immediate deduction for motor vehicles costing $6,500 or more that were acquired from the 2012–2013 income year onwards. Note that motor vehicles acquired and available for use between 1 July 2013 and 31 December 2013 will still be eligible for an immediate initial deduction of up to $5,000. The ATO said no shortfall penalty will apply if taxpayers seek to amend their return “within a reasonable time” and the SIC will also be remitted to nil.

Abolition of geothermal energy exploration expenditure

From 1 July 2014:

• geothermal energy exploration and prospecting expenditure will no longer be immediately deductible; and
• if a geothermal exploration right is exchanged for a geothermal energy extraction right relating to the same, or a similar area, then a CGT rollover applies to defer the liability until the sale of the extraction right. These changes do not affect deductions or balancing adjustments for geothermal exploration rights or geothermal exploration information that started to be held before the income year in which the amendments commence.

The ATO has advised the Government that it will waive all penalties and interest in instances where taxpayers have chosen not to prepare their returns on the basis of the Government’s announcement of the measures, if they seek to have their income tax assessments amended in “reasonable time”.

Families and superannuation savers – take note

In order to pass the mining tax repeal legislation through the Senate, the Government made a deal with the Palmer United Party and Senator Muir (Australian Motoring Enthusiast Party) to defer the abolition of:

• the Income Support Bonus to 31 December 2016;
• the Schoolkids Bonus to 31 December 2016 (and the bonus will be restricted to families earning less than $100,000 per annum); and
• the Low Income Super Contribution to 30 June 2017.

The Government also agreed to freeze the superannuation guarantee (SG) rate at 9.5% for seven years. Under the changes, the SG rate will increase to 10% from 1 July 2021 and by 0.5% per year from 1 July 2022 until it reaches 12% for the year beginning 1 July 2025. The “rephased” SG percentage is summarised in the table below.

 

Financial year	SG charge percentage (%)
	Rates as amended	Rates proposed in original Bill	Law before changes
starting on 1 July 2014	9.5	9.5	9.5
starting on 1 July 2015	9.5	9.5	10
starting on 1 July 2016	9.5	9.5	10.5
starting on 1 July 2017	9.5	9.5	11
starting on 1 July 2018	9.5	10	11.5
starting on 1 July 2019	9.5	10.5	12
starting on 1 July 2020	9.5	11	12
starting on 1 July 2021	10	11.5	12
starting on 1 July 2022	10.5	12	12
starting on 1 July 2023	11	12	12
starting on 1 July 2024	11.5	12	12
starting on or after 1 July 2025	12	12	12

Sources: Minerals Resource Rent Tax Repeal and Other Measures Bill 2014, http://parlinfo.aph.gov.au/parlInfo/search/display/display.w3p;page=0;query=r5327; Treasurer and Acting Assistant Treasurer’s joint media release, 9 September 2014, http://jbh.ministers.treasury.gov.au/media-release; ATO media release, 9 September 2014, https://www.ato.gov.au/Media-centre/Media-releases/ATO-provides-advice-on-MRRT-repeal.

Professional firms and profit distribution under scrutiny

The ATO has released draft guidelines on how it will assess Pt IVA risk applying to the allocation of profits from a professional firm carried on through a partnership, trust or company, where the income of the firm is not personal services income.

ATO Deputy Commissioner Michael Cranston said the draft guidelines explain how professionals can assess the tax risks flowing from the use of partnerships of discretionary trusts and similar structures. “Professional practices may legitimately operate as a partnership of discretionary trusts or through similar structures. The ATO is reviewing remuneration arrangements used by accountants, lawyers and other professionals to make sure people are using these structures appropriately,” he said. Firms which could be affected include, but are not limited to, those that provide accounting, architectural, engineering, financial, legal and medical services.

The ATO’s concerns

The ATO said that in some cases practice income may be treated as being derived from a business structure, even though the source of that income remains, to a significant extent, the provision of professional services by one or more individuals. The ATO said it was concerned that Pt IVA may apply to schemes which are designed to ensure that the individual practitioner professional (IPP) is not directly rewarded for the services they provide to the business, or receives a reward which is substantially less than the value of those services. Where an individual attempts to alienate amounts of income flowing from their personal exertion (as opposed to income generated by the business structure), the ATO said it may consider cancelling relevant tax benefits under Pt IVA.

The ATO said it acknowledged that the general anti-avoidance provisions have historically been applied to assess individuals on income generated by their personal exertion or application of their professional skills, rather than profits or income generated by a business. However, the ATO said it considers that Pt IVA could apply where an IPP arranges for the distribution of business profits or income to associates without regard to the value of the services the individual has provided to the business. This is particularly the case, where for example, the level of income received by the individual, whether by way of salary, distribution of partnership or trust profit, dividend or any combination of them, does not reflect their contribution to the business and is not otherwise explicable by the commercial circumstances of the business.

Low risk and high risk arrangements

Mr Cranston said the draft guidelines set out what the ATO considers to be low risk, legally effective arrangements, and what it considers to be high risk arrangements that might attract attention. The draft guidelines set out circumstances that the ATO considers low risk and not subject to compliance action on the issue. Broadly, a case would be considered low risk if the IPP meets one of the following guidelines regarding income from the firm:

• the IPP receives assessable income from the firm in their own hands as an appropriate return for the services they provide to the firm. In determining an appropriate level of income, the taxpayer may use the level of remuneration paid to the highest band of professional employees providing equivalent services to the firm, or if there are no such employees in the firm, comparable firms or relevant industry benchmarks eg industry benchmarks for a region provided by a professional association, agency or consultant; and/or
• 50% or more of the income to which the IPP and their associated entities are collectively entitled (whether directly or indirectly through interposed entities) in the relevant year is assessable in the hands of the IPP; or
• the IPP and their associated entities both have an effective tax rate of 30% or higher on the income received from the firm.

Where none of the low risk guidelines are met, the ATO will consider the arrangement to be “higher risk”. In these cases, the lower the effective tax rate, the higher the ATO will rate the compliance risk and the greater the likelihood of compliance action. For example, an arrangement with an effective tax rate of 15% would be rated as higher risk than one with an effective tax rate of 25%. Note that in cases where other compliance issues are evident (eg late lodgment of returns, income injection to entities with carry forward losses, avoidance of Div 7A, inappropriate access to low income tax offsets or other benefits etc), the taxpayer will be rated as higher risk.

Date of effect and review

The draft guidelines have been co-designed with industry representatives and have been issued as a working draft for ongoing public consultation. The ATO said the draft guidelines will be applied from the 2014–2015 income tax year. The ATO said the guidelines will be reviewed during the 2016–2017 year, subject to the possibility of judicial guidance pending an appropriate test case being identified.

Sources: ATO publication, “Assessing the risk: allocation of profits within professional firms”, 2 September 2014, https://www.ato.gov.au/Business/Starting-and-running-your-small-business/In-detail/Professional-practice-income/Assessing-the-risk–allocation-of-profits-within-professional-firms; ATO media release, 1 September 2014, https://www.ato.gov.au/Media-centre/Media-releases/ATO-provides-guidance-on-discretionary-trust-partnerships-for-professionals.

Dividend washing compliance still on ATO’s radar

The ATO says it will soon commence the next phase of its dividend washing compliance program by issuing letters to 500 taxpayers who did not respond to the ATO’s initial letters. The ATO will also issue letters to another 1,500 taxpayers whose updated data suggests they may have entered into a dividend washing transaction. The letters will ask those taxpayers to self-amend their tax returns for the income years ending 30 June 2011, 2012 and 2013 in order to reverse franking benefits they may have obtained from dividend washing transactions.

In line with an earlier commitment, the ATO says it will not impose any penalty on taxpayers who have entered into dividend washing transactions and who come forward to self-amend their tax returns before the date specified in the ATO letter. In addition, the ATO says that taxpayers who have entered into dividend washing transactions but do not receive a letter from the ATO will not be subject to penalties provided they amend their tax returns by 22 September 2014.

The ATO reiterated its position in Taxation Determination TD 2014/10 that obtaining two sets of franking credits from one dividend event is not allowed. The ATO says taxpayers who are unsure about their own circumstances should seek independent advice or apply for a private ruling from the ATO. Taxpayers can call the ATO on 1800 177 006 if they require further assistance.

In March 2014, the ATO issued letters to taxpayers who it identified may have been involved in dividend washing transactions. As at 30 June 2014, approximately 1,300 of the taxpayers contacted in March had responded by coming forward to make voluntary amendments under which the franking benefits obtained from dividend washing transactions have been removed from their tax returns.

The ATO says it will continue to monitor dividend washing and apply the law to disallow additional franking credits.

Sources: ATO media release, 11 August 2014, https://www.ato.gov.au/Media-centre/Articles/ATO-targets-dividend-washing/; ATO publication, “New law preventing dividend washing”, 12 August 2014, https://www.ato.gov.au/Tax-professionals/News-and-updates/Income-tax/New-law-preventing-dividend-washing.

Rental property deductions – avoid common errors

The ATO says it is increasing its focus on rental property deductions. It says common errors made by rental property owners include the following:

• claiming rental deductions for properties not genuinely available for rent;
• incorrectly claiming deductions for properties only available for rent part of the year, such as a holiday home;
• incorrectly claiming structural improvement costs as repairs when they are capital works deductions, such as re-modelling a bathroom or building a pergola;
• overstating deduction claims for the interest on loans taken out to purchase, renovate or maintain a rental property.

The ATO has also released a series of short videos which explain the tax implications of buying, owning and selling a rental property. The short videos are available on the ATO website at https://www.ato.gov.au/General/Property/In-detail/Rental-properties/Rental-Property-video-series.

Source: ATO publication, “Claiming rental property expenses?”, 18 August 2014, https://www.ato.gov.au/Tax-professionals/News-and-updates/Income-tax/Claiming-rental-property-expenses.

Data-matching offshore bank accounts

The ATO has gazetted a notice outlining details of a data-matching program targeting foreign bank accounts. The ATO will request and collect account details of bank customers from various financial institutions listed in the notice to identify Australian resident taxpayers with offshore bank accounts which may show undeclared income and/or gains for the years ended 30 June 2012 to 30 Jun 2015. The financial institutions listed in the notice include the following:

• Australia and New Zealand Banking Group Limited
• Bank of China (Australia) Limited
• Bank of China Limited
• Credit Suisse AG
• Deutsche Bank Aktiengessellschaft
• HSBC Bank Australia Limited
• Hongkong and Shanghai Banking Corporation Limited
• Investec Bank (Australia) Limited
• Macquarie Bank Limited
• Rabobank Australia Limited
• Rabobank Nederland
• UBS AG
• Citibank, N.A.
• Citigroup Pty Limited

The program will, among other things, help the ATO to identify Australian resident taxpayers who may be outside the tax system, and increase transparency of the worldwide dealings of Australian resident taxpayers. The program will also assist the ATO in building an understanding of taxpayer behaviour in international dealings, develop compliance profiles and improve fraud detection models. The ATO estimates that approximately 50,000 offshore records will be obtained under the program.

Other data-matching programs

The ATO has also gazetted notices announcing the following data-matching programs:

Taxable government grants and payments

The ATO will acquire details of entities receiving taxable grants and payments from various Federal, State and Territory and Local Government departments, agencies and authorities.

The ATO notes the gazette notice replaces previously issued notices re Local Government Contractor Payments (C2014G00139, 28 January 2014), Childcare and Educator Payments (C2014G00566, 2 April 2014), and Queensland Government Contractor Payments (C2014G00567, 2 April 2014).

The ATO says the program will enable it to do the following:

• identify and test the correct taxation reporting by recipients of taxable Government grants and payments from agencies across the Federal, State and Local levels of government; and
• identify areas that require improved educational and compliance strategies to encourage voluntary compliance for recipients of Government payments and grants.

Records matched under the program will exceed 5,000 individuals throughout Australia.

Music royalty payments

The ATO will acquire details of entities collecting and distributing music royalty payments for the 2011, 2012 and 2013 financial years from the following sources:

• Australasian Performing Right Association (APRA);
• Australasian Mechanical Copyright Owners Society (AMCOS);
• APRA New Zealand Limited; and
• AMCOS New Zealand Limited.

Among other things, the ATO aims to detect instances of potential non-compliance, especially with omitted income and alienation of personal services income. The ATO also aims to develop a profile of the industry, including any risks and trends of non-compliance with taxation and superannuation obligations, and tailor educational strategies specifically for participants in the music industry. It is estimated that records for more than 15,000 entities will be obtained, of which most will be individuals.

Further information

Documents describing the programs are available by emailing the ATO at SpecialPurposeDataSteward@ato.gov.au.

Sources: Commonwealth Gazettes, Banking Transparency (2012–2015) (C2014G01381, 21 August 2014), http://www.comlaw.gov.au/Details/C2014G01381; Taxable Government Grants and Payments (2014) (C2014G01382, 21 August 2014), http://www.comlaw.gov.au/Details/C2014G01382; Music Royalty Payments (2011–2013) (C2014G01380, 21 August 2014), http://www.comlaw.gov.au/Details/C2014G01380.

Settlement for damages subject to capital gains tax

The Australian Administrative Tribunal (AAT) has affirmed that a taxpayer was liable for capital gains tax (CGT) on a payment made to her in settlement of litigation she pursued for breach of contract and negligence. In doing so, the AAT dismissed the taxpayer’s claim that the payment of damages per se could not give rise to a profit or gain. It also found that she had failed to establish any relevant cost base for legal expenses that would otherwise reduce the assessable capital gain.

Background

The taxpayer was a solicitor who ran a family practice (with her husband). In anticipation of the husband’s retirement, they entered into an agreement with another solicitor to, among other things, transfer clients to him and recover outstanding debts of their practice. However, following the apparent failure of the agreement, the taxpayer (and her husband) sued the other solicitor for breach of various contractual and equitable duties.

By deed of settlement dated 6 September 2007, the solicitor agreed to pay the taxpayer and her husband $700,000 (as indemnified by LawCover insurance). Importantly, the settlement deed did not set out any basis for apportioning the $700,000 amongst the various claims made under the statement of claim lodged by the taxpayer and her husband. Nor was there material available to indicate how the $700,000 was calculated.

The Commissioner assessed the taxpayer for CGT on her share of the settlement payment (ie $350,000 – later reduced to $175,000 due to the effect of the CGT 50% discount). He did so on the basis that CGT event C2 (ending of intangible asset) applied to the transaction and that the taxpayer had failed to establish a relevant cost base. The Commissioner also imposed 50% shortfall penalties for “recklessness”.

The taxpayer argued that CGT could not apply to a payment for “damages” per se. It did not give rise to a profit or gain, and all the payment did was return her to her “pre-damage” position. Alternatively, she argued that if CGT did apply, then she was entitled to a cost base for her share of legal costs in pursing the action which would reduce her gain to some $34,000. She also contested the imposition of shortfall penalties for recklessness.

Decision

In dismissing the taxpayer’s application, the AAT found that she had not discharged the burden of proving the assessment was excessive and what the correct assessment should be – and, in particular, that relevant legal expenses had in fact been incurred for cost base purposes.

The AAT first found that each of the causes of action pleaded by the taxpayer against the solicitor were CGT assets under the definition of “CGT asset” in s 108-5(1) of the Income Tax Assessment Act 1997 (ITAA 1997) as they were either “a kind of property” or, alternatively, “legal or equitable rights that were not property”. It then found that CGT event C2 happened when the deed of settlement was executed because the CGT assets (being the causes of action or “choses in action”) ended by “release, discharge or satisfaction or by being surrendered” as required by CGT event C2. The AAT further found that this event happened in the 2008 income year, being the time the taxpayer entered into the settlement deed.

In terms of the amount of the capital gain from the event, the AAT stated that the payment made to the taxpayer was clearly the capital proceeds from the event. It then found that legal costs incurred by a taxpayer in respect of such an action could form part of the cost base of the assets in question, but the taxpayer had failed to establish that the expenses had in fact been incurred. In particular, the AAT noted that while invoices were provided, there were a number of problems with these invoices including:

• there was no clear evidence to support the fact that the invoices were ever paid;
• even if they were paid, there was no clear evidence they were paid by the taxpayer (ie “incurred” by the taxpayer for cost base purposes);
• even if paid, there seemed to have been no clear basis for establishing that the invoices that were paid related specifically to the damages received; and
• there was difficulty in reconciling the quantum of the legal costs and the net damages figures with the invoices.

The AAT also emphasised that the taxpayer had not maintained adequate records of cost incurred for CGT purposes as required by s 121-20. Accordingly, in all these circumstances, the AAT found that the taxpayer had not discharged her burden of proving the assessment was excessive and what it, instead, should have been.

Importantly, in relation to the taxpayer’s argument that damages cannot be a capital gain, the AAT stated that “there does not appear to be such a broad principle in operation and certainly since the introduction of taxes on capital gains in Australia, it is entirely possible for damages received by way of settlement of a claim to be treated as a capital gain after appropriate adjustment is made for any costs that can be used to reduce that amount under the relevant statutory formulation provided in the legislation”. It also noted that this was clear from the decisions in Tuite v Exelby (1993) 25 ATR 81 and Carborundum Realty Pty Limited v RAIA Architecture Pty Limited (1993) 25 ATR 192, for example.

Finally, the AAT found that the 50% shortfall penalties imposed for “recklessness” were appropriate in the circumstances and, in particular, in view of the taxpayer taking no steps to seek independent legal advice in relation to whether any tax might be payable on the payment, the failure to keep virtually any records as required by the tax law and the fact that the taxpayer lodged a tax return which was incorrect in a “material particular”.

Comment

Note that this result accords with the Commissioner’s view in Taxation Ruling TR 95/35 which states that compensation will be considered to be capital proceeds for the right to sue per se, if it is not received in relation to an underlying asset or is received as an undissected lump sum.

Re Coshott and FCT [2014] AATA 622, 2 September 2014, http://www.austlii.edu.au/au/cases/cth/AATA/2014/622.html.

Bitcoin tax guidance from the ATO

The ATO has released its views on the tax treatment of Bitcoins and other crypto-currencies. The views are contained in four Draft Taxation Determinations and a Draft GST Ruling. The ATO has also released a guidance paper.

ATO Senior Assistant Commissioner Michael Hardy said the ATO has consulted extensively with Bitcoin experts, businesses, industry bodies and other external stakeholders to develop the guidance and explain the obligations of Bitcoin users. Mr Hardy said people should seek a private ruling if their circumstances are not covered by the guidance.

Guidance paper – tax consequences of Bitcoin transactions

The ATO released a guidance paper on the tax consequences of transacting with Bitcoins, which it considers akin to a barter arrangement, with similar tax consequences. It states that the records taxpayers are required to keep in relation to such transactions are the date of the transactions; the amount in Australian dollars (taken from a reputable online exchange); what the transaction was for; and who the other party was (eg their Bitcoin address).

According to the ATO, generally there will be no income tax or GST implications of taxpayers using Bitcoins to pay for goods or services if they are not in business or carrying on an enterprise (ie acquiring goods or services for personal use or consumption). However, where transactions using Bitcoins are conducted in a business, the following tax consequences may apply:

• the value of Bitcoins received for goods or services provided as a part of a taxpayer’s business needs to be recorded in Australian dollars as a part of their ordinary income;
• businesses may be able to claim input tax credits on GST charged on the Bitcoins they received as payment if the supply of goods or services was a taxable supply;
• a deduction is allowed for the purchase of business items using Bitcoins based on the arm’s length value of the item acquired;
• GST is payable on the supply of Bitcoins made in the course or furtherance of a taxpayer’s enterprise and the GST value is calculated on the market value of the goods or services; and
• capital gains consequences may apply where taxpayers dispose of Bitcoins as a part of carrying on a business. However, any capital gain is reduced by the amount that is included in their assessable income as ordinary income.

In instances where an employee has a valid salary sacrifice arrangement with their employer to receive Bitcoins as remuneration (ie salary and wages) instead of Australian dollars, the ATO notes the payment will be a fringe benefit. However, it states that in absence of a valid salary sacrifice arrangement, the remuneration will be treated as salary and wages and the employee will need to meet their usual PAYG obligations.

Mining Bitcoins

The ATO states that those in the business of mining Bitcoins need to include in their assessable income any income derived from the transfer of the mined Bitcoins to a third party. It says any expense incurred in relation to the mining activity would be allowed as a deduction. However, losses made may be subject to non-commercial loss provisions. Further, the ATO notes that Bitcoins are trading stock, and those in the business of mining Bitcoins are required to bring to account any Bitcoins on hand at the end of each income year. It notes that GST may be payable on supply, and input tax credits may be available.

Bitcoin exchange transactions

The ATO notes the following tax and GST consequences in relation to Bitcoin exchange transactions.

Taxpayers conducting a Bitcoin exchange (including Bitcoin ATMs)

Proceeds are included in assessable income. Expenses incurred are allowed as a deduction. Any Bitcoin on hand at the end of the income year needs to be accounted for as trading stock. GST may be payable on supply, and input tax credits may be available.

Taxpayers transacting with a Bitcoin exchange

Those taxpayers who acquired Bitcoins as an investment but are not carrying on a business will not be assessed on any profits resulting from the sale. Also, deductions will not be allowed for any losses made (CGT may apply). However, if the transactions amount to a profit-making undertaking or plan, then the profits on disposal will be assessable income. There will be no GST consequences where the Bitcoins were not supplied or acquired in the course or furtherance of an enterprise carried on.

Draft Taxation Determinations

The ATO has issued the following Draft Taxation Determinations.

Draft TD 2014/D11

This TD states that Bitcoins are not a “foreign currency” for the purposes of Div 775 of the ITAA 1997. The Draft states that the Commissioner’s view is that the current use and acceptance of Bitcoins in the community is not sufficiently widespread that it satisfies the test in Moss v Hancock [1899] 2QB 111, nor is it a generally accepted medium of exchange as per Travelex Ltd v FCT (2008) 71 ATR 216. Accordingly, the Draft indicates that Bitcoins do not satisfy the ordinary meaning of money. Since foreign currency is defined as a currency other than Australian currency, the Commissioner states that Bitcoins are not a foreign currency under Div 775 as it is not legally recognised as a unit of account and form of payment by the laws of any other sovereign country.

Draft TD 2014/D12

This TD says that Bitcoin holding rights amount to property and as such it is a “CGT asset” for the purposes of s 108-5(1) of the ITAA 1997. According to the Draft, the disposal of Bitcoins to a third party will usually give rise to CGT event A1 and taxpayers will be assessed on capital gains made. However, in circumstances where the Bitcoins are considered to be a personal use asset (ie kept for personal enjoyment or use) taxpayers may have access to s 118-10(3).

Draft TD 2014/D13

This TD indicates that when held for the purpose of sale or exchange in the ordinary course of a business, Bitcoin is trading stock for the purposes of s 70-10(1) of the ITAA 1997. The Draft states that this is evident from the context in John v FCT (1989) 20 ATR 1 that the trading activity to which the definition applies involves the passing of a proprietary interest in the things traded. In addition, it is also clear from FCT v Sutton Motors (Chullora) Wholesale Pty Ltd (1985) 16 ATR 567 that intangible property such as shares are capable of being trading stock.

Draft TD 2014/D14

This TD states that the provision of Bitcoins by an employer to an employee in respect of their employment is a property fringe benefit for the purposes of s 136(1) of the Fringe Benefits Tax Assessment Act 1986 (FBTAA). The Draft states that Bitcoin is not tangible property for the purposes of the FBTAA nor is it real property, and Bitcoin holding rights are not a chose in action. However, it states that as the definition of intangible property includes “any other kind of property other than tangible property”, Bitcoins will fall within this definition. In addition, the Draft indicates that since Bitcoins are not money, but is considered property for tax purposes, it satisfies the definition of a “non-cash benefit” and is excluded from PAYG withholding, which in turn means that it is not “salary or wages”.

Draft GST Ruling

The ATO also issued Draft GST Ruling GSTR 2014/D3 which considers whether Bitcoins are “money” as defined in s 195-1 of the GST Act and whether they are a “financial supply” under s 40-5(1) of the GST Act. The Draft states that a transfer of Bitcoins is a “supply for GST purposes” as Bitcoins are not “money” for the purposes of the GST Act. It also states that a supply of Bitcoins is not a “financial supply” and therefore is not input taxed.

Further, the Draft indicates that a supply of Bitcoins is a taxable supply under s 9-5 if the other requirements are met and the supply of Bitcoins is not GST-free under Div 38 (eg as a supply to a non-resident for use outside Australia). It also states that a supply of Bitcoins in exchange for goods or services will be treated as a barter transaction.

The Draft includes three examples outlining the various GST consequences of using Bitcoins in exchange for goods or services.

Public consultation

The Draft TDs and Draft GST Ruling are open to public consultation until 3 October 2014.

Date of effect

When the final Determinations and final GST Ruling are issued, it is proposed they will apply both before and after their date of issue.

Links to the Draft TDs, Draft GST Ruling and ATO Guidance Paper

• TD 2014/D11 – http://law.ato.gov.au/atolaw/view.htm?docid=%22DXT%2FTD2014D11%2FNAT%2FATO%2F00001%22
• TD 2014/D12 –http://law.ato.gov.au/atolaw/view.htm?docid=%22DXT%2FTD2014D12%2FNAT%2FATO%2F00001%22
• TD 2014/D13 –http://law.ato.gov.au/atolaw/view.htm?docid=%22DXT%2FTD2014D13%2FNAT%2FATO%2F00001%22
• TD 2041/D14 – http://law.ato.gov.au/atolaw/view.htm?docid=%22DXT%2FTD2014D14%2FNAT%2FATO%2F00001%22
• Draft GSTR 2014/D3 – http://law.ato.gov.au/atolaw/view.htm?docid=%22DGS%2FGSTR2014D3%2FNAT%2FATO%2F00001%22
• ATO publication, “Tax treatment of crypto-currencies in Australia – specifically bitcoin”, 20 August 2014 –https://www.ato.gov.au/General/Gen/Tax-treatment-of-crypto-currencies-in-Australia—specifically-bitcoin

Source: ATO media release, 20 August 2014, https://www.ato.gov.au/Media-centre/Media-releases/ATO-delivers-guidance-on-Bitcoin.

Important: Clients should not act solely on the basis of the material contained in Client Alert. Items herein are general comments only and do not constitute or convey advice per se. Also changes in legislation may occur quickly. We therefore recommend that our formal advice be sought before acting in any of the areas. Client Alert is issued as a helpful guide to clients and for their private information. Therefore it should be regarded as confidential and not be made available to any person without our prior approval.