Budget Update October 2022

Corporate Measures 

Clarifying that digital currencies are not taxed as foreign currency

The Government will introduce legislation to clarify that digital currencies (such as Bitcoin) continue to be excluded from the Australian income tax treatment of foreign currency. This maintains the current tax treatment of digital currencies, including the capital gains tax treatment where they are held as an investment.

This measure removes uncertainty following the decision of the Government of El Salvador to adopt Bitcoin as legal tender and will be backdated to income years that include 1 July 2021.

The exclusion does not apply to digital currencies issued by, or under the authority of, a government agency, which continue to be taxed as foreign currency.

Our insight: This announcement is consistent with the exposure draft legislation released in June 2022, which is designed to provide clarity of the tax treatment of digital currencies and the distinction of which digital currencies may be classified to be taxed as foreign currencies.

Reversing the option of self-assessing effective life of intangible depreciating assets

The Government will not proceed with the measure to allow taxpayers to self-assess the effective life of intangible depreciating assets (i.e. copyright, patents and registered designs), announced in the 2021–22 Budget.

Reversing this decision will maintain the status quo – where the effective lives of intangible depreciating assets will continue to be set by statute.

Our insight: This reversal in policy is intended to avoid potential integrity issues. We are not expecting adverse implications of from this change as deductions for the use of the eligible intangibles can still be claimed based on the effective lives  prescribed under the current tax legislation.

Improving the integrity of off-market share buy-backs

The Government seeks to improve the integrity of the tax system by aligning the tax treatment of off-market share buy-backs undertaken by listed public companies with the treatment of on-market share buy-backs. This measure will apply from announcement on Budget night (7:30pm AEDT, 25 October 2022).

Our insight:  There are not many details provided in the Budget Papers. It is hoped that the announcement will align the structural differences on the tax treatment between on-market and off-market share buy-back without causing any unfavourable tax implications.

Multinational Measures 

Amending Australia’s interest limitation (thin capitalisation) rules

 The Government will strengthen Australia’s thin capitalisation rules to address its perceived risks to the corporate tax base arising from the use of excessive debt deductions. This measure will apply to income years commencing on or after 1 July 2023. The current thin capitalisation regime limits debt deductions up to the maximum of three different tests: a safe harbour test (debt to asset ratio –which broadly allows gearing up to 60% of the book value of a company’s Australian assets or debt-to-equity ratio of 1.5:1); an arm’s length debt test; and a worldwide gearing (debt to equity ratio) test.

The Government will replace the safe harbour and worldwide gearing tests with “earnings-based tests” to limit debt deductions in line with an entity’s activities (profits). This measure includes changes to:

• limit an entity’s debt-related deductions to 30 per cent of profits (using EBITDA — earnings before interest, taxes, depreciation, and amortisation – as the measure of profit). This new earnings-based test will replace the safe harbour test
• allow deductions denied under the entity-level EBITDA test (interest expense amounts exceeding the 30 per cent EBITDA ratio) to be carried forward and claimed in a subsequent income year (up to 15 years)
• allow an entity in a group to claim debt-related deductions up to the level of the worldwide group’s net interest expense as a share of earnings (which may exceed the 30 per cent EBITDA ratio). This new earnings-based group ratio will replace the worldwide gearing ratio
• retain an arm’s length debt test as a substitute test which will apply only to an entity’s external (third party) debt, disallowing deductions for related party debt under this test.

The changes will apply to multinational entities operating in Australia and any inward or outward investor, in line with the existing thin capitalisation regime. Financial entities will continue to be subject to the existing thin capitalisation rules.

Our insight:  Following the release of August 2022 Discussion Paper by Treasury, the Budget Paper has provided some much needed clarification to the changes. However, there are still areas that remain outstanding. Therefore, it is crucial for taxpayers that may be affected by the changes to carefully consider the impact and put in place plan to mitigate the potential exposures.

Denying deductions for payments relating to intangibles held in low- or no-tax jurisdictions

The Government will introduce an anti-avoidance rule to prevent significant global entities (SGEs), that is, entities with global revenue of at least AUD1 billion, from claiming tax deductions for payments made directly or indirectly to related parties in relation to intangibles held in low- or no-tax jurisdictions.

For the purposes of this measure, a low- or no-tax jurisdiction is a jurisdiction with:

• a tax rate of less than 15 per cent or
• a tax preferential patent box regime without sufficient economic substance. The measure will apply to payments made on or after 1 July 2023.

Our insight: This measure is part of the Government federal election promise which appears to be consistent with the measures adopted by other countries. At this juncture, there are minimal details on this measure. Given that there are various existing laws and the likely finalisation in late 2022 or early 2023 of the Australian Taxation Office’s draft Practical Compliance Guideline PCG2021/D4 on intangibles arrangements between international related parties, affected taxpayer cannot afford not to review their current arrangement and engage with the authorities and stakeholders as early as possible to ensure any potential impact is managed diligently.  

Tax transparency

The Government will introduce reporting requirements for relevant companies to enhance the tax information they disclose to the public, for income years commencing from 1 July 2023.

The Government will require:

• large multinationals, defined as SGE, to prepare for public release of certain tax information on a country by country (CbC) basis and a statement on their approach to taxation, for disclosure by the ATO.
• Australian public companies (listed and unlisted) to disclose information on the number of subsidiaries and their country of tax domicile and
• tenderers for Australian Government contracts worth more than $200,000 to disclose their country of tax domicile (by supplying their ultimate head entity’s country of tax residence).

Our insight:  This is another measure included in the Government Federal election promise. No further details are available in the Budget Paper in terms of the type of information required for the reports. It is hoped that the additional reporting will take into account the existing compliance obligations and costs of these entities.

Compliance Measures 

Extend ATO various compliance programs

 As part of its Federal election promises, the Government will extend ATO existing various compliance program as follows:

• The Government will provide $80.3 million funding to the ATO to extend the Personal Income Taxation Compliance Program for 2 years from 1 July 2023. This extension will enable the ATO to continue to deliver a combination of proactive, preventative and corrective activities in key areas of non-compliance, including overclaiming of deductions and incorrect reporting of income. The funding will enable the ATO to modernise its guidance products, engage earlier with taxpayers and tax agents and target its compliance activity.
• The extension of the Shadow Economy Program will be extended for a further 3 years from 1 July 2023. This will enable the ATO to continue a strong and co-ordinated response to target shadow economy activity, protect revenue and level the playing field for those businesses that are following the rules.
• The Government has boosted funding for the ATO Tax Avoidance Taskforce by around $200 million per year over 4 years from 1 July 2022, in addition to extending this Taskforce for a further year from 1 July 2025. The boosting and extension of the Tax Avoidance Taskforce will support the ATO to pursue new priority areas of observed business tax risks, complementing the ongoing focus on multinational enterprises and large public and private businesses.

Our insight:  This is an expected measure in the Government’s pursuit to improve both compliance rates and integrity of the tax systems as well as Government tax collection.  We would strongly advise all businesses (including multinational enterprises and large public and private businesses) to review their internal tax governance policies and procedures. This includes putting in place diligent record keeping system to ensure tax information disclosed to the ATO is able to be substantiated by relevant documentation.

Tax Practitioners Board – Compliance program to enhance tax system integrity

The Government will provide $30.4 million to the Tax Practitioners Board (TPB) to increase compliance investigations into high-risk tax practitioners and unregistered preparers over 4 years from 1 July 2023.

The TPB will use new risk engines to better identify tax practitioners who engage in poor and unlawful tax advice, to improve tax compliance and raise industry standards.

Our insight:  We welcome such initiative as this will give better assurance to the taxpayer that they are getting high quality standard of services from the registered tax agents.

Increase in Commonwealth Penalty Unit amount

The Government will increase the amount of the Commonwealth penalty unit from $222 to $275, from 1 January 2023. The increase will apply to offences committed after the relevant legislative amendment comes into force. The amount will continue to be indexed every 3 years in line with the CPI as per the pre-existing schedule, with the next indexation occurring on 1 July 2023.

Penalty units are used to describe the amount payable for fines under Commonwealth laws, including in relation to communication, financial, tax and fraud offences. Fines are calculated by multiplying the value of one penalty unit by the number of penalty units prescribed for the offence. This measure ensures that financial penalties for Commonwealth offences continue to remain effective in deterring unlawful behaviour and contributes to budget repair.

Our insight:  The increase will have significant impact to SGEs which is subject to a higher penalty regime. Therefore, we cannot emphasise enough the importance for SGEs to ensure that they comply with their tax obligations.