“The Government will monitor developments in this area and, if structures or transactions emerge that undermine the effectiveness of the measure, evaluate whether further action is warranted, with possible retrospective application.” (My emphasis.)
“The Government will monitor developments in this area and, if structures or transactions emerge that undermine the effectiveness of the measure, evaluate whether further action is warranted, with possible retroactive application.” (My emphasis.)
The Federal Budget, March 31, 2013, Tax Measures: Supplementary Information – Leveraged Life Insurance Arrangements.
Perhaps I will be accused of beating a dead horse in complaining again about retrospective/retroactive tax legislation, but I can’t let the passages quoted above pass without comment. They appear in that part of the Supplementary Information section of Annex 2 to the Budget Documents which purports to explain the Government’s reasons for sections 36 – 42 of the Ways and Means Motion tabled with the March 21, 2013 Budget. The first passage relates to the proposals for leveraged insured annuities (LIAs); the second to the proposals for 10/8 arrangements. The Government says that investors in these products enjoy “unintended tax benefits” which the Budget proposes to eliminate. Fair enough – it’s the Government’s job to update the tax rules as required from time to time to eliminate unintended tax benefits. And that’s what the proposed tax changes in this area set out to do. But, as the passages above indicate, if it turns out that subsequent events prove that the proposed new rules are badly drafted (i.e., that taxpayers are using other arrangements not caught by the new rules to obtain equivalent tax benefits) then retrospective or retroactive legislation may be introduced to eliminate those benefits, too.
Legislation is retrospective when it applies to alter the current tax treatment of arrangements put in effect at a date prior to the effective date of the legislation. An example might be a statutory rule denying the deduction of interest on money borrowed to invest in a leveraged annuity in place on enactment date. The fact that the annuity and loan were put in place at an earlier date would not prevent the retrospective amendment from denying the deduction of interest on the loan going forward. But deductions before the enactment date are not affected. Retroactive legislation is draconian. In the example, if the interest denial were made effective as of an earlier date, deductions previously allowed would be rescinded back to the effective date. Both retrospective and retroactive legislation are very blunt instruments. They seriously undermine the principle that we are entitled to know what the tax rules are when entering into transactions.
The proposed rules for LIAs and 10/8s are complex. The Budget proposals specifically identify the elements of the current structures regarded as offensive. I suspect that Government is concerned that its proposed rules may not do the job, hence the threat to pass retrospective/retroactive legislation if subsequent events prove they do not. But consider what the Government is really saying with this threat. To me, it comes down to this: “Here are the rules that now govern. They stop the sort of planning that we have identified as inappropriate. But there may be other types of planning that we haven’t yet thought about and which will turn out not to be caught by the rules. This would be inappropriate, so we are putting you on notice that we may change the rules retrospectively/retroactively to stop the other arrangements, too, once we have figured them out.” In other words, if the Government decides later on that it missed something, we should have anticipated what they missed and have acted accordingly.
My concern about this approach to anti-avoidance measures goes back to the 1980s. The evil in those days was legislation by press release. When concerned about an avoidance structure, the Government put out a press release indicating in general terms its intention to introduce legislation to counter it. When it got around to actually passing the legislation, the terms were often more restrictive than anyone could have reasonably anticipated from the press release, but the new legislation was made effective from the press release date. Transactions thought not to be offensive at the time later turned out to be on the hit list, and were retroactively added to it.
The approach in the current budget strikes me as a variation on that old theme. In my view it was inappropriate then, and it is inappropriate now. There is a different approach, one that respects the rule of law: Do the best you can with the language of the rule you are now introducing. If subsequent events prove the original rule is badly drafted, correct it – but, absent very special circumstances, make the correction effective currently, not as of the date of the earlier changes.