This special edition of Acumen discusses the key taxation reforms announced this evening by Treasurer Scott Morrison in the 2018 Australian Federal Budget. Positive highlights from the tax announcements in the Budget are:
- at an individual (employee) level, modest tax cuts for low and middle income earners in the short term, addressing “bracket creep” by adjusting the thresholds at which higher tax rates kick in, and simplifying the tax system by 2024/2025 through abolition of the 37% tax bracket; and
- for business, a one year extension of the small business instant asset write-off for assets worth less than $20,000, and (subject to the Senate) delivery of the reduction in the corporate tax rate as part of the previously announced enterprise tax plan.
However, this is balanced by a number of revenue raising measures including “better targeting” the research & development (R&D) tax incentive, strengthening the thin capitalisation rules applicable to multinational enterprises, a crackdown on the black economy and exploration of further options for the taxation of the digital economy.
A stronger economy, with tax cuts, enhanced security and Budget balance …
The Treasurer positioned tonight’s Budget to deliver “a stronger economy”, through tax relief, backing business to invest, guaranteeing essential services, keeping Australia safe and ensuring the government “lives within its means”.
Despite the reversal of the 0.5% increase in the Medicare levy announced in the 2017 Budget at a cost of A$12.8 billion, the Treasurer announced that the Budget is projected to return to surplus in 2019/2020 (one year earlier than forecast in the 2017 Budget). These figures take account of the (yet to be legislated) reduction in the corporate tax rate from 30% to 25% by the 2026-2027 financial year which was announced as part of the government’s “enterprise tax plan” in the 2016 Budget.
While references to the next Federal election, which may be held at any time between August 2018 and May 2019, were studiously avoided in the Treasurer’s speech, there is no doubt that this is a Budget set with one eye on the re-election of the Coalition government.
Recent federal Budgets have been replete with measures designed to crack down on multinational entities (MNEs) viewed as not paying their “fair share of tax”. Those measures included Country-by-Country reporting under Australia’s transfer pricing rules, a multinational anti-avoidance law (MAAL) and a diverted profits tax (DPT).
Given the measures already enacted, it might have been expected that tonight’s Budget would be relatively light on for additional measures targeting MNEs. However, there are two significant measures that broaden the attack.
For income years commencing on or after 1 July 2019, Australia’s thin capitalisation rules, designed to prevent MNEs from shifting profits out of Australia by funding their Australian operations with high levels of debt relative to equity (and so claiming large debt deductions), will be tightened in two respects:
- First, all entities must rely on asset values contained in their financial statements for thin capitalisation purposes. Valuations made before the Budget may be relied on until the beginning of an entity’s first income year commencing on or after 1 July 2019. This measure will address a perceived practice of MNEs obtaining favourable valuations outside annual financial accounting processes to give themselves more “headroom” in calculating their debt deductions; and
- Secondly, foreign controlled Australian consolidated and multiple entry consolidated groups that control a foreign entity will be treated as both outward and inward investment vehicles, rather than as outward investors, for thin capitalisation purposes. As such, these entities will no longer be able to access the same (concessional) thin capitalisation tests available to outward investors.
For income years commencing on or after 1 July 2018, the definition of a “significant global entity” (SGE) will be broadened. The current definition of a SGE applies only to an entity which is a member of a group headed by a public company or a private company required to provide consolidated financial statements. The definition of an SGE will be broadened to include members of large multinational groups headed by private companies, trusts, partnerships and investment entities. This means that a broader range of large multinational groups will be required to prepare Country-by-Country reports and be subject to SGE integrity measures, including the MAAL and the DPT.
Collective investment trust measures
Measures will be introduced to prevent Managed Investment Trusts (MITs) and Attribution Managed Investment Trusts (AMITs) from applying the 50% capital gains tax discount at the trust level on payments made from 1 July 2019. The stated intent of this measure is to prevent MITs and AMITs from distributing discounted capital gains to beneficiaries that would not otherwise be entitled to the 50% CGT discount in their own right. The amounts will still be distributed as capital gains, with beneficiaries able to claim any discount to which they are entitled.
The government will also proceed with the significant changes to the tax treatment of stapled trusts announced by the Treasurer on 27 March 2018, which is anticipated to generate additional revenue of $400 million over 4 years.
On the more positive side, the government will update the list of countries whose residents are able to access the reduced withholding tax rate of 15% on MIT distributions to cover the 56 jurisdictions that have entered into information sharing agreements with Australia.
Research and development
The Government is amending the R&D tax incentive to restrict its availability in order to save A$2.4 billion over 4 years. The amendments apply to income years starting on or after 1 July 2018.
Under the new rules, there will be caps on cash refunds for entities with turnover below A$20 million, while entities with turnover of A$20 million or more will be entitled to the non-refundable R&D tax offset based on their “R&D intensity percentage”, being R&D expenditure as a proportion of total expenditure for the year. The changes are summarised in the table below:
- increased resourcing for enforcement activity by the Australian Taxation Office (ATO) and Department of Industry, Innovation and Science;
- enabling the ATO to publicly disclose claimant details and the amount of R&D expenditure they have claimed; and
- limiting time extensions to complete R&D registrations.
As part of the 2015 Budget, small businesses with an aggregated annual turnover less than A$10 million became entitled to claim as an immediate deduction (i.e. write off) the cost of eligible assets costing less than A$20,000. This measure was extended in the 2017-18 Budget to 30 June 2018, and has now been extended again to 30 June 2019. Other aspects of the simplified depreciation measures for small business have also been extended.
The government will implement a number of measures to address the so-called “black economy” based on the recommendations of the Black Economy Taskforce. These include measures to address “phoenix” activity and impose a limit on businesses receiving cash payments of A$10,000 or more for goods and services from 1 July 2019. Further, the director penalty regime, which can result in directors being personally liable for unpaid corporate taxes, will be extended to cover GST, luxury car tax and wine equalisation tax.
A number of other integrity measures announced in the Budget also have the potential to impact small business. These include:
- From 1 July 2019, businesses will be prevented from claiming a deduction for payments to employees or contractors where the business fails to comply with pay as you go (PAYG) withholding requirements.
- Partners in a partnership who alienate their right to future partnership income will be denied access to the small business capital gains tax concessions.
The Government has announced a seven-year personal income tax plan for “lower, fairer and simpler taxes” in three stages:
- Step 1 of the plan is to provide immediate tax relief to middle and lower income earners through a new tax offset of up to A$530 per annum.
- Step 2 is to progressively lift tax brackets to protect individuals against bracket creep. The top threshold of the 32.5% tax bracket will be increased from A$87,000 to A$90,000 from 1 July 2018, and further increased to A$120,000 from 1 July 2022. The top threshold of the 19% tax bracket will be increased from A$37,000 to A$41,000 from 1 July 2022.
- Step 3 is to abolish the 37% bracket from 1 July 2024, so that tax will be payable at 32.5 cents in the dollar on income between A$41,000 and A$200,000. For income above $200,000, the top marginal tax rate of 45% will apply.
The Medicare levy increase from 2.0% to 2.5% and associated changes to other tax rates, announced in last year’s Budget, will no longer proceed.
What’s on the horizon
With the latest possible date for the next federal election just over a year away and the increasing prospect that this government will want to serve its full term, what does the next year hold in store by way of tax reform?
While a reduction in the corporate tax rate may be government policy, with every day of the banking royal commission that passes – generating fresh revelations of corporate excess – the prospect of the Senate agreeing to such reform recedes further. As such, at this stage, it appears a remote and ever-diminishing prospect that parliament will agree to a cut in the corporate tax rate before the next Federal election.
Further, with a substantial number of tax and related Bills still before parliament, substantial effort will be required on the government’s part to have these and the Budget tax measures enacted.
With that context in mind, the prospect of any substantive or meaningful tax reform being prosecuted ahead of the next federal election appears remote.
However, for those multinationals in the digital economy, there are some danger signs on the horizon, with the Treasurer indicating the impending release of a discussion paper on options for further reform.