Tax Bulletin – July 2019

July  has been busy on the legislation front with the reintroduction of lapsed legislation, as well as the introduction of measures originally announced in the 2018-19 Federal Budget. This includes the denial of deduction of holding costs for vacant land, which we have particular concerns in relation to.  These and other updates are covered in our July Tax Bulletin.

LEGISLATIVE UPDATE

Denial of deductions for holding costs associated with vacant land

Legislation has been introduced in relation to the previously announced measure denying deductions for holding costs in relation to vacant land from 1 July 2019 (regardless of when land acquired). Costs will  instead be included in cost base of the land. Holding costs refers to costs such as rates, land tax, interest and maintenance costs. Land will be considered vacant where there is no substantive or permanent building structure. If constructing residential premises, land will be considered vacant until it is lawfully able to be occupied and is available for lease. The measures will also apply where only part of land is vacant to deny a deduction for a relevant proportion of costs.

The measures do not apply to companies and will also not apply if land is being used to carry on a business by the landholder or by certain related parties.

Issue: It is common for land that has no substantive structures to be used to derive passive income, such as agistment or lease of farmland. We intend to make a submission to the Senate Committee raising our concerns. If you have clients that will be negatively impacted by these measures please contact us.

Other 2018-19 Federal Budget measures

Legislation has also been introduced for other measures announced in the 2018-19 Budget:
– Denial of small business CGT concessions for capital gains arising from Everett assignments (from 8 May 2018) – The concessions will only be available with respect to disposal of a partnership right or interest if those rights or interests represent a membership interest in the partnership (i.e. they would make the holder of the rights a partner).
– Extension of trustee beneficiary non-disclosure tax (from Royal assent) —the application of tax to any untaxed part of a circular trust distribution to which the trustee of a closely held trust becomes presently entitled will be extended to family trusts. The amendments will not require a trustee of the family trust to lodge a trustee beneficiary statement.
– Superannuation guarantee (SG) integrity (from 1 July 2020) —amounts that an employee salary sacrifices to superannuation will not be able to be applied to reduce an employer’s SG charge. Further, an employee’s ordinary time earnings (OTE) base on which SG is calculated will include any amounts sacrificed into superannuation that would have been OTE but for the salary sacrifice arrangement.

Genuine redundancy and early retirement payments

Draft legislation has been released to reform genuine redundancy and early retirement scheme payments to align the age below which a person can receive these with the Age Pension.

Subject to satisfying the other eligibility criteria, payments to individuals aged 65 years or more, but below the Age Pension age, will qualify for concessional tax treatment, being:
– A tax-free component that is not assessable income and not exempt income.
– Balance being an ETP that is an ‘excluded payment’.

Changes will apply from 1 July 2019. Submissions close on 1 August 2019

Restrictions on the use of cash—$10,000 payment limit

Draft legislation has been released to implement a proposed $10,000 cash payment limit.

From 1 January 2020 it will be a criminal offence to make or accept a payment to or from businesses or a donation that includes $10,000 or more of cash. The limit will apply to the total price of a single supply of goods or services, regardless of whether paid in instalments. Cash payments can be made up to $10,000, with the remainder of the payments to be made electronically or by cheque. Exemptions will apply to transactions with ADIs, foreign currency exchange and wholly private transactions (other than real property).  Submissions close on 12 August 2019.

CASE LAW UPDATE

Howard v FCT— Division 7A

In the Howard v FCT case, a company paid a dividend to a trust which was distributed (via an interposed trust) to a second company. The first trust sought to set-off the dividend against a loan the first company had made to the individual taxpayer by which the trust then became the lender. This was intended to take place in the 2009 income year before certain Division 7A amendments took effect. In the 2010 income year the trust entered into a 25-year loan agreement with the taxpayer which was secured with a second mortgage. The ATO assessed the taxpayer on a deemed dividend on the basis the loan was made in 2010 and section 109T (loans made through interposed entities) applied. 

The AAT held that the loan was advanced in 2010 as there was no evidence of the dividend or loan being made pre-1 July 2009. The loan did not comply with Division 7A as there was insufficient security available against the property. The Commissioner was not required to exercise his discretion under section 109RB as this was not an honest mistake or inadvertent error.

Key takeaway: This is yet another case emphasising the importance of documenting each step of a transaction on a contemporaneous basis. Further, it is a reminder that in order to put in place a 25 year loan, the loan must be secured against the property, and the market value of the property (less any current mortgage) must be at least 110% the value of the loan.

SDRQ v FCT— Availability of capital losses

In SDRQ v FCT the taxpayer had sought to claim capital losses arising from an earlier sale of shares in two related companies (to another related party) for nominal consideration.

Company A had originally been acquired for $3m from a related party. There was no contemporaneous evidence supporting the purchase price. The value was based on the provision of services of the controller to related parties. It had an employment agreement  but no other employees, no third party clients, and no agreement binding the related parties to use its services. The fees used to justify its value were not   accepted as commercial and the related parties would not have had sufficient cashflow to fund these. It was therefore concluded that a hypothetical purchaser would not have paid this amount for Company A.

The taxpayer had success with the issue of whether Company B had any value when it was sold. Although the company had valuable assets, it had guaranteed the liabilities of other group entities which were in a material net asset deficiency. The AAT accepted that there was a distinct possibility that Company B could be called upon under the guarantee and this was sufficient to render the shares of no value to a hypothetical purchaser.

Key takeaway: There are many scenarios in a tax context when private equity interests may need to be valued and this case raises a number of relevant issues for consideration.

Campbell v CofT — Distribution from a foreign trust

In the Campbell case, the taxpayer received monies as a beneficiary of a New Zealand trust. The ATO sought to tax the amounts, as trust distributions paid to a resident beneficiary that have not previously been subject to tax, under section 99B. The taxpayer argued that the amounts were corpus of the trust and therefore eligible for the relevant exception. The taxpayer initially provided a set of financial
statements which showed that the trust had trust capital at the relevant time. Revised financial statements were subsequently provided which showed no capital balance.

The AAT held that the evidence provided by the taxpayer was sparse and inconsistent and therefore unreliable. The Tribunal was not able to be satisfied that the distributions were corpus of the Trust.

Key takeaway: Although this case principally failed due to the lack of reliable evidence, in our experience providing sufficient proof to the ATO that a foreign trust distribution is corpus can be difficult and it may be necessary to have access to the historical and underlying financial records of the trust.

Hill v FCT — Share trading activities not a business

In Hill v FCT the taxpayer had incurred losses from his share trading activities in the 2015 -2017 income years which he was seeking to carry forward and claim in a subsequent income year. He was seeking to  claim a deduction on the basis he was carrying on a share trading business. Most trading was done whilst also employed. Although the number of trades was not significant, the sums traded were very large.

The AAT held that the taxpayer was not carrying on a business of share trading. Trading was infrequent and characterised by numerous periods of no trading. The portfolio of shares held and traded was not extensive. Trading seemed to be a “side issue” as the taxpayer worked full time for the majority of the period. No professional assistance was obtained from stock brokers or financial planners despite the taxpayer’s lack of qualifications. Research was unsophisticated with no records kept, and no budgets. The business plan lacked detail and was not updated for changed circumstances.

RULINGS, GUIDELINES  & PRACTICE STATEMENTS

TD 2019/10 – Interaction of debt-equity and transfer pricing rules

TD 2019/10 sets out the ATO view that, when the transfer pricing rules substitute arm’s length conditions between entities, the arrangement is classified under the debt-equity rules by reference to the arm’s length conditions that are taken to operate, rather than the actual conditions. The practical application of this approach is illustrated in a number of examples in the TD including the following in relation to the common scenario of an outbound interest-free loan:

AusCo makes a loan to a wholly-owned foreign company, ForCo which could not obtain debt financing from an unrelated party. The loan, which is for a 9-year term and interest-free, would otherwise satisfy the debt test. Had the arm’s length conditions operated AusCo would have made a capital contribution to ForCo and, under the debt-equity rules, the capital contribution would be treated as equity. However, as there is no transfer pricing benefit under the arm’s length conditions, these rules do not  operate and the classification of the arrangement as a debt interest is not affected.

TD 2019/12—Debt deductions under the thin capitalisation rules

TD 2019/12 clarifies what types of costs are considered to be debt deductions for thin capitalisation purposes. If a taxpayer is subject to these rules, and has debt in excess of the maximum allowable, all or part of these costs may be non-deductible. It is also relevant when determining whether an entity has exceeded the $2m debt deduction threshold to be subject to the rules.

The TD includes a non-exhaustive list of costs, which go well beyond those in the nature of interest, including tax advice costs in connection with debt capital and the legal costs of preparing documentation, as well as regulatory filing fees and borrowing expenses.

ATO AND GOVERNMENT ACTIVITY AND FOCUS

Division 7A benchmark interest rate

The ATO has confirmed that the Division 7A benchmark interest rate for the 2020 income year is 5.37%. This is relevant for complying loan agreements and 7-year sub-trust arrangements.

2019 Tax return focus — Car expenses and rental properties

Work-related car expenses will again be a key focus again for 2019. Over 3.6 million people made work-related car expenses claims in 2018 totalling more than $7.2 billion. The ATO have stated that their concern is that people are deliberately making claims for things like private trips, trips they didn’t make, and car expenses their employer paid for or reimbursed them for.

A rental property owners toolkit has been issued to assist taxpayers, which includes areas where common mistakes are made, including:
– Apportionment of expenses and income for co-owned properties;
– Making sure property is genuinely available for rent;
– Treatment of initial repairs and capital improvement;
– Claiming of interest and borrowing expenses on loans, and costs of purchase;
– Claiming capital works deductions; and
– Apportioning expense claims for periods of personal use or use by friends.

FBT and ‘taxi travel’

The ATO has finalised its view that a ride sourcing service, such as Uber, is not a taxi for the purposes of the FBT exemption. Taxi travel by an employee is an exempt benefit if it:
– is a single trip beginning or ending at the employee’s place of work; or
– results from sickness or injury and all or part of the journey is directly between the employee’s place of work, place of residence, or any other place that it is appropriate to go as a result of the sickness or injury.

It is important to note that this view does not prevent ride-sourcing expenses qualifying for other FBT  exemptions (e.g. otherwise deductible, minor & infrequent).

Fact sheet on compensation received by Super Funds

The ATO has provided guidance on the income tax implications of various types of compensation payments that may be received by Funds following the Royal Banking Commission. The guide also sets out the circumstances where GST implications will arise from the compensation. These include compensation payments for:
– Fees where no service provided;
– Loss on value of an investment;
– Refund of insurance premiums; and
– Compensation for earnings and interest.

CONTACT US

For further information on any of these updates, or for general assistance, please contact Our Directors, Jacci Mandersloot or Natalie Claughton.

The information contained in this bulletin is intended to  provide  general information only and is not intended to serve as tax advice. Specific advice should always be sought regarding a taxpayers’ particular circumstances. Please contact MC Tax Advisors if you would like assistance with the issues identified in this bulletin.