The Australian Treasurer has handed down his 2017 budget today. In a change from its more dramatic budgets in recent years, the Australian Government has focussed on four principal areas of reform:
- The introduction of a new major bank levy calculated quarterly at 0.015% of an Authorised Deposit-taking Institution's certain licenced entity liabilities. Takes effect 1 July 2017;
- The introduction of a new set of anti-hybrid mismatch rules for banks and other financial institutions' regulatory capital. Takes effect the later of 1 January 2018 or six months after Royal Assent;
- Extension of the Managed Investment Trust (MIT) withholding tax concession (15% withholding tax rate) and related concessions to investments in affordable housing (defined to include accommodation for low to moderate income households). Takes effect 1 July 2017; and
- A myriad of technical Capital Gains Tax (CGT), superannuation, Goods and Services Tax (GST), foreign investment and tax integrity measures intended to close perceived tax loopholes and increase costs for foreign owners of Australian real estate. These will be introduced over a staggered time period.
Banks - major bank levy and Anti-hybrid measures
Major bank levy
From 1 July 2017, the Government will introduce a new 'major bank' levy. It applies to 'major' banks, being Authorised Deposit-taking Institutions (ADIs) with licensed liabilities of at least $100 billion (which will be indexed).
The levy will be calculated quarterly at 0.015% on the ADI's licensed liabilities (at the Australian Prudential Regulation Authority (APRA) mandated quarterly reporting date) resulting in an annualised rate of 0.06%.
However, the levy only applies to certain liabilities, such as corporate bonds, commercial paper, certificates of deposit and Tier 2 capital instruments. It will not apply to additional Tier 1 capital and deposits of individuals, businesses and other entities protected by the Financial Claims Scheme. The Financial Claims Scheme protects depositors and policy holders of ADIs from potential loss due to failure of these institutions (up to $250,000 per account holder).
The APRA quarterly statistics include a calculation of the "Selected liabilities on Australian books of individual banks". APRA's March 2017 quarterly statistics show the total liabilities for bonds, notes and long-term borrowings, as well as "other borrowings" (comprising of securities sold under agreement to repurchase, promissory notes/commercial paper, other short term debt securities and short term loans) in Australian banks as $250,728 million. Currently, only the 5 largest banks have over $100 billion of these kinds of liabilities.
This levy is estimated to generate over $6.2 billion of Government revenue over the next four years and the Budget Papers state that this is net of interactions with other taxes, mainly the corporate income tax (which indicates that the levy may be an available tax deduction for the ADIs). The specific details of the levy are still to be released so the interaction with corporate income tax, GST and other taxes is not clear at this time.
A bank levy was suggested by the International Monetary Fund (IMF) as a reaction to banks holding risky liabilities on their balance sheets in the aftermath of the GFC. The IMF suggested that the funds could be used as an insurance scheme or fund to bailout banks that failed (rather than having the taxpayers fund these failures). The UK implemented a similar scheme in January 2011 and Scott Morrison stated, "The levy is similar to measures imposed in other advanced countries".
Another question is whether the levy can be passed onto customers. The Budget Papers refer to the Australian Competition and Consumer Commission (ACCC) undertaking a residential mortgage pricing inquiry until June 2018, and requiring the ADIs to provide the ACCC with information about changes, or proposed changes to residential mortgage pricing, fees, charges or interest rates. This suggests that the ACCC will monitor the extent to which the levy is passed on to customers.
Regarding the reason for the levy, Morrison states: "This represents a fair additional contribution from our major banks and will assist with the Budget repair" and that "by reducing Australia's largest banks' funding cost advantages, the levy will also contribute to a more level playing field for smaller banks and non-bank competitors." Interestingly, it seems that what started as an idea to insure against banking bailout packages during a GFC, has been used to assist the Government with Budget repair and create a more level playing field in the Australian finance sector.
Application of the OECD Hybrid Mismatch Rules to Regulatory Capital
The Government has continued its strong focus on combating multinational tax avoidance, and has specifically targeted minimisation structures employed by banks and financial institutions. The announcement follows on from last year's budget and proposes to implement further anti-hybrid rules that relate to regulatory capital known as Additional Tier 1 (AT1), commonly issued by Australian banks to investors through a foreign branch.
The concern is that AT1, issued by Australian regulated entities, is classified as equity for Australian tax purposes. This classification is a result of the regulatory terms that must be attached to such issuances, and enables the issuer to frank returns to Australian investors. However, a number of foreign jurisdictions treat AT1 as debt, enabling deductions to be made by the issuer on the returns paid to investors. The jurisdictions that allow a deduction include New Zealand, the UK and more recently, Singapore.
The disparate classification of AT1 in Australia and those foreign jurisdictions enable Australian financial institutions to issue AT1 out of those foreign jurisdictions where the return is deductible, and subsequently allow Australian investors to use franking credits to offset tax assessable to them. This effectively creates a situation where the issuer can claim deductions in the foreign jurisdiction and investors in Australia receive franked dividends, minimising the tax payable on the arrangement.
To combat this, the Federal Government has announced that on issues of AT1, it will:
- Deny franking credits on returns of AT1 where the returns are deductible in the foreign jurisdiction; and
- Debit the franking account of the issuer as if the returns were to be franked where the AT1 is not wholly used in the operations of the issuer.
It is expected that transitional arrangements will apply to AT1 instruments issued before the budget announcement and will apply in full from the later of 1 January 2018 or six months after Royal Assent.
International tax developments - real estate related measures
Capital gains tax (CGT) withholding changes for foreign residents
Currently, a disposal of a direct or indirect interest in Australian real property by a foreign resident vendor is subject to a CGT withholding tax regime, which was introduced with effect from 1 July 2016. Where this regime applies, the purchaser is required to withhold 10% of the purchase price and remit that amount to the Australian Tax Office (ATO).
The Government will now introduce legislation to:
- Increase the CGT withholding rate for foreign tax residents from 10% to 12.5%
- Reduce the de minimis value exemption threshold from $2 million to $750,000
The CGT withholding tax is not a final tax - the vendor may claim a credit for the tax withheld when lodging its tax return for the relevant year. Nonetheless, these measures will further the scope and amount of the CGT withholding tax, thereby increasing the amount of tax collected upfront by the ATO from sales of Australian real estate by foreign resident owners. These measures are to apply from 1 July 2017.
Managed investment trusts and affordable housing
The Government will introduce legislation that allows a 'managed investment trust' (MIT) to invest in affordable housing in Australia.
Currently MITs are eligible for certain concessional tax treatment in Australia, including a lower 15% withholding tax rate on certain distributions of income (such as net rental income and taxable capital gains) to foreign investors. The lower rate is available to investors that are resident in a country that has an effective Exchange of Information (EOI) arrangement on tax matters with Australia.
One of the requirements for MIT status is that the trust must not carry on a trading business or control/be able to control the affairs or operations of another person carrying on a trading business. That is, the trust must undertake passive investments (e.g. holding land for rental income) rather than active business investments or operations (e.g. acquiring land for development and sale).
The ATO has generally adopted the position that investing in residential real estate is an active trading business (i.e. carried on for the purpose of deriving a profit upon sale of the property). However, the new measures will provide that:
- The concessional rules for MITs will be available where a MIT acquires, constructs or redevelops a property, provided that at least 80% of its assessable income is derived from affordable housing
- The qualifying housing must be provided to low to moderate income tenants, with rent charged at a discount to the private rental market rate
- The affordable housing must be available for rent for at least 10 years
This measure is targeted at encouraging foreign investment into Australian affordable housing assets.
This measure is to apply from 1 July 2017.
Annual charges on foreign owners of underutilised residential property
The Government will introduce a new charge on foreign owners of Australian residential property where the property is not occupied or genuinely available on the rental market for at least 6 months per year. The charge will be levied annually and will be equal to the relevant foreign investment application fee (of at least $5,000) levied on the property at the time it was acquired by the foreign investor.
The purpose of this measure is to encourage foreign owners to make their properties available for rent where they are not regularly used as a residence by the owners.
Certain Australian states (e.g. New South Wales and Victoria) have already introduced a land tax surcharge for foreign owners of Australian residential real estate, thus this additional charge by the Federal Government will further increase the ownership costs for foreign owners of Australian residential real estate.
This measure is to apply to foreign persons who make a foreign investment application for residential property from 7:30pm (AEST) on 9 May 2017 onwards.
Limits on foreign investment
The Government will introduce a 50% cap on the number of properties for new developments that can be sold to foreign investors through developer pre-approvals. The purpose of this measure is to ensure that a minimum proportion of such developments are available for Australians to purchase.
The cap will be introduced through a condition on the New Dwelling Exemption Certificates where the application is made from 7.30pm (AEST) on 9 May 2017 onwards.
International tax developments - Strengthening the Multinational Anti Avoidance Law (MAAL)
The MAAL has been operative from 1 January 2016 and applies to multinational entities (i.e. with annual global revenues of $1 billion or more) which enter into schemes to artificially avoid having a taxable presence in Australia.
Broadly, the MAAL applies where, amongst other things, a foreign entity derives income from the making of supplies to Australian customers. That is, if sales are made directly by an Australian entity to the Australian customers, the MAAL will not apply.
The Government has proposed to strengthen the MAAL so that it will also extend to corporate structures involving foreign partnerships and foreign trusts. That is, the MAAL will apply to corporate structures that involve the interposition of partnerships that have any foreign resident partners, trusts that have any foreign resident trustees and foreign trusts that temporarily have their central management and control in Australia.
Under the current laws, the following entities can be characterised as an Australian entity for the purposes of the MAAL: a partnership with one Australian resident partner (and the other partner being a non-resident); a trust in which a trustee of the trust estate is an Australian resident at any time during the income year; and a trust in which the central management and control of the trust estate is in Australia at any time during the income year (including only temporarily). By purporting to interpose these entities between the foreign entity originally making supplies to the Australian customers, and to treat these interposed partnership and trusts as Australian entities, the scheme seeks to artificially circumvent the application of the MAAL by contending that there is no supply being made or income being derived by a foreign entity.
This Budget announcement followed the release of Taxpayer Alert TA 2016/11 by the ATO on 15 September 2016. In TA 2016/11, the ATO had expressed their concerns on certain restructures involving foreign partnerships implemented by taxpayers in order to avoid the application of the MAAL.
Extending tax relief for merging superannuation funds
The Australian Government will extend the current tax relief for merging superannuation funds until 1 July 2020.
Since December 2008 tax relief has been available for superannuation funds to transfer capital and revenue losses to a new merged fund, and to defer taxation consequences on gains and losses from revenue and capital assets. This tax relief was due to lapse on 1 July 2017. The purpose of extending this relief is to ensure superannuation fund members' balances are not reduced by tax when superannuation funds are merged as well as removing tax as an impediment to mergers and industry consolidation.
Housing affordability measures
The Government has announced the following two superannuation related measures to improve housing affordability in Australia:
- First Home Super Saver Scheme: From 1 July 2017, first home buyers can make voluntary contributions to superannuation which may be withdrawn for a first home deposit, along with associated deemed earnings. Under this measure:
Downsizing contribution: From 1 July 2018 persons aged 65 or over may make a non-concessional contribution of up to $300,000 from the proceeds of selling their home. This measure will apply to sales of a principal residence owned for the past ten or more years and both members of a couple will be able to take advantage of this measure for the same home. These contributions will be in addition to those currently permitted under existing rules and caps and they will be exempt from the existing age test, work test and the $1.6 million balance test for making non-concessional contributions.
- Concessional contributions and earnings that are withdrawn will be taxed at marginal rates less a 30 per cent offset
- Up to $15,000 per year and up to $30,000 in total can be contributed within existing caps
- Withdrawals will be allowed from 1 July 2018 onwards
- Both members of a couple can take advantage of this measure to buy their first home together
The Government has announced certain further integrity measures for superannuation including:
- From 1 July 2017 the use of limited recourse borrowing arrangements (LRBA) will be included in a member's total superannuation balance and transfer cap. This measure is to prevent LRBAs from being used to circumvent contribution caps and effectively transfer growth in assets from the accumulation phase to the retirement phase that is not captured by the transfer balance cap (currently $1.6 million)
- From 1 July 2018 the non-arms' length income provisions for superannuation funds will be amended to reduce opportunities for members to use related party transactions on non-commercial terms to increase superannuation savings
Small business measures
The Government will extend by 12 months (to 30 June 2018), the current immediate deductibility of eligible assets under the $20,000 threshold for assets first used or installed ready for use by businesses with aggregated annual turnover less than $10 million. Further, assets above the threshold can continue to be placed in the small business simplified depreciation pool and depreciated at 15% in the first income year and 30% each income year thereafter. From 1 July 2018, the immediate deductibility threshold and balance at which the pool can be immediately deducted will revert back to $1,000.
Further to the 2015-16 Budget, the Government has reaffirmed its commitment to becoming an innovation hub and backing Australian FinTech by announcing that it will align the GST treatment of digital currency (such as Bitcoin) with money from 1 July 2017. Digital currency is currently treated as intangible property for GST purposes and could therefore attract GST twice - on purchase, and again on use in exchange for other goods and services subject to GST. This measure is intended to ensure digital currency is no longer subject to such double taxation.
In addition, in order to support the integrity of GST on property transactions, the Government introduces a requirement for purchasers of newly constructed residential property and new subdivisions to remit GST directly to the Australian Tax Office (ATO) as part of settlement (effective 1 July 2018). The current law requires developers to remit GST to the ATO.
Further, the Government introduces other integrity measures which are effective from 1 April 2017:
- A reverse charge mechanism for taxable supplies of precious metals (gold, silver and platinum) where the purchaser will remit GST to the ATO instead of the seller
- An amendment to clarify that goods containing precious metals do not qualify as "second hand goods"
The foreign resident CGT regime will be amended by:
- Denying foreign and temporary tax residents access to the CGT main residence exemption from 7:30pm (AEST) 9 May 2017 (properties held prior to this date will be grandfathered until 30 June 2019)
- Applying the principal asset test on an associate inclusive basis to foreign residents with indirect interests in Australian real property, as of 1 July 2017. This is aimed at preventing foreign residents from avoiding CGT liability by disaggregating such interests
In addition, the Government will increase the Medicare levy from 2.0% to 2.5% from 1 July 2019. Current exemptions and relief from the Medicare levy will remain in place. Other tax rates linked to the top personal tax rate (such as fringe benefits tax) will also be increased.
All currency references are in AUD.