- A patent box regime with a concessional 17% tax rate to encourage investment in Australian medical and biotech technologies, to commence 1 July 2022.
- Rules that allow taxpayers to self-assess the effective lives of intangible depreciating assets acquired from 1 July 2023.
- A new framework for determining individual tax residency under Australian domestic legislation based on more objective criteria.
- Removal of the cessation of employment taxing point for tax-deferred Employee Share Schemes that are available for all companies.
- The Digital Games Tax Offset (DGTO) to promote the growth of the digital games development industry in Australia.
Patent Box — for Australian medical and biotechnology innovations
The announcement of a patent box regime to apply from 1 July 2022 marked the high point of tonight's Federal Budget and, alongside other measures, sends a clear message that the Australian Government is willing to compete for investment in an increasingly digitalised global economy.
The new regime seeks to encourage innovation in Australia by taxing corporate income derived from certain patents at a concessional 17% rate; a reduction which goes some, but not all, of the way to levelling the playing field with other countries operating similar regimes, most of which offer lower, or even no tax, on qualifying patent income.
These rules will operate in parallel with the new measures aimed at increasing the rate of depreciation on intangible assets and existing regimes which reward Australian R&D efforts. Regarding the latter, the introduction of a patent box regime may address perceived issues with the R&D tax incentive, including that it leaves Australian developed intellectual property vulnerable to being transferred or managed overseas. It may also present an opportunity for foreign groups currently accessing the R&D tax incentive via a contract R&D services model to both increase the net R&D after-tax benefit and take advantage of the patent box regime.
Notwithstanding the potential significance of this measure, certain features suggest Treasury is still unsure of what its overall impact on revenue will be; preferring to dip its toe in the water rather than dive in head first. At its commencement, the measure will only be available for Australian medical and biotechnical patents with a view to also applying to the clean energy sector in the future (subject to consultation).
The remaining features of the regime appear to be undecided, with Treasury committing to consult with industry before finalising a detailed design. However, elements of the announcement, including the diagrams provided in the tax fact sheet (see Figure 1 below), bear a resemblance to the discussion materials released by HM Treasury when the original UK patent box regime was announced. That system has already been modified in light of OECD challenge and now offers a 10% concessional tax rate for patent income which has a sufficient nexus with UK-based R&D activities.
Whatever the template for Australia's system, taxpayers, advisors and industry bodies will be looking on with interest at how the Government formulates the key elements of the new regime including, critically, the necessary nexus which income must have with a patent and the connection which patents must have with Australian R&D efforts. Certainly, the long-standing rules on whether an entity is carrying on R&D activities for its own benefit could provide a ready-made substance test for the Australian regime but only time will tell.
Supporting the growth of the digital games development industry in Australia
The Government is introducing the Digital Games Tax Offset to promote the growth of the digital games development industry in Australia. It will provide a 30% refundable tax offset for qualifying Australian games expenditure from 1 July 2022. To be eligible, the game being developed must not have gambling elements and at least AUD 500,000 qualifying expenditure must be spent on the game. The definition of qualifying Australian games expenditure will be informed through further consultation with industry stakeholders. The Digital Games Tax Offset will be available in the year when the spending of qualifying expenditure has ceased on a game and the maximum tax offset a developer can claim in each year is AUD 20 million.
Self-assessing the tax effective life of certain intangible assets
The Government plans on amending tax legislation to allow taxpayers to self-assess the tax effective lives of eligible intangible depreciating assets, such as patents, registered designs, copyrights, in-house software and telecommunications site access rights. This measure will apply to assets acquired from 1 July 2023 (after the temporary full expensing regime, which was extended until 30 June 2023 in this year's budget, has concluded).
This same measure was originally announced in December 2015 as part of the Government's National Innovation and Science Agenda (and was proposed to apply to assets acquired from 1 July 2016). However, it was ultimately shelved due to lack of support in the Senate, ostensibly due to concerns that these measures might further encourage corporate groups shifting money around under the guise of payments for intangible assets.
Currently, the tax effective lives of such intangible assets are set by statute. Allowing taxpayers to self-assess the tax effective life of an eligible intangible depreciating asset will align the tax treatment of these assets with that of most tangible assets. Practically, if a taxpayer self-assesses an asset as having a shorter effective life than the current statutory life, deductions are effectively brought forward.
The Government has indicated that taxpayers will continue to have the option of applying the existing statutory effective life to depreciate these assets.
Taking the grey areas out of individual tax residency rules
The Government has announced changes intended to simplify the tax residency rules for individuals.
The primary test under the new rules will be a so-called "simple bright line" test under which a person who is physically present in Australia for 183 days or more in any income year (i.e. the Australian tax year ending 30 June) will be an Australian tax resident. This represents a simplified version of the 183 day test used by some of our major trading partners such as the US. Even if an individual is not physically present in Australia for 183 days or more, they may still be a tax resident under secondary tests that depend on a combination of physical presence and what are cryptically described in the budget papers as "measurable, objective criteria".
The Board of Taxation's March 2019 report on modernising the tax residency rules should hold the clues to what these criteria will be. The report set out a number of tests focusing on the right to reside permanently in Australia, Australian accommodation, Australian family and Australian economic interests. The report also included certain other proposals, including an overseas employment rule, under which Australian tax residency would be lost where an individual is employed for a period of over 2 years overseas and certain other requirements are met.
The new individual tax residency rules are intended to apply from 1 July following Royal Assent.
A key issue to remember is that even if an individual is tax resident of Australia under Australian law, a tie-breaker provision of a double tax agreement may give the result that the individual is instead treated as tax resident of another country during a particular income year.
Corporate tax residency rules to include trusts and corporate limited partnerships
The Government has announced that it will consult on extending the proposed amendments to clarify the corporate residency test to include trusts and corporate limited partnerships. It is not clear from the Budget Papers, but we assume this will only apply to trusts treated as corporate entities, rather than all trusts. Industry's views will be sought on this issue as part of the consultation on the original corporate residency amendment.
Employee Share Schemes - Removal of cessation of employment as a taxing point
Following persistent calls for reform from employees and employers alike, the Government has announced it will remove the cessation of employment as a taxing point for employee share scheme (ESS) interests. Assuming the amendment passed into law, the change will apply to ESS interests granted on or after 1 July following Royal Assent.
The announcement brings Australia into line with the majority of its OECD counterparts who do not tax equity awards upon cessation of employment. Under the current rules, cessation of employment triggers a taxable event for employees, regardless of whether their ESS awards have vested or the underlying shares can be sold. This has resulted in employees paying tax on ESS interests before they are able to realise any benefit to fund the payment of tax. Employees have been either forced to sell the shares or fund the tax from other sources. Under the proposed change, for ESS interests that qualify for tax deferral, a taxing point will occur at the earliest of the remaining taxing points:
- in the case of shares - when there is no risk of forfeiture and no restrictions on disposal;
- in the case of rights to acquire shares (e.g., options) - when the employee exercises the option and there is no risk of forfeiting the resulting share and no restriction on disposal; or
- the maximum period of deferral of 15 years.
If the shares are sold within 30 days of the relevant time set out in the first two bullet points, the taxing point will be moved to the date of sale.
The government also plans to reduce red tape for:
- employers who do not charge or lend to employees to whom they offer ESS interests – by removing disclosure requirements and exempting the offer from licensing, anti-hawking and advertising prohibitions; and
- employers who do charge or lend for issuing employees shares in an unlisted company – by increasing the value of shares that can be issued to an employee with simplified disclosure requirements, and exemptions from licensing, anti-hawking and advertising requirements, from 5,000 to AUD 30,000 per employee per year (leaving unchanged the absence of such a value cap for listed companies).
It is important to note that as the removal of the cessation of employment as a taxing point will only apply to ESS interests granted on or after 1 July following Royal Assent, it will be some time before terminated employees see any benefit. It is also unclear if employers will still be required to report to ex-employees as they do under the current ESS reporting regime. If so, employers may be required to maintain details of ex-employees for a significant period after they cease employment. Notably, the Budget announcements pre-empt the release of the Commonwealth's final report on the Inquiry into the Tax Treatment of Employee Share Schemes, which may provide further insight in the coming months.
Taxation of Financial Arrangements — hedging and foreign exchange deregulation
The taxation of financial arrangements (TOFA) regime will be amended to allow entities to elect into the hedging financial arrangements method for a portfolio of assets. The proposed changes are also intended to lower compliance costs and correct unintended consequences, such that entities are not subject to unrealised taxation on foreign exchange gains and losses on their hedging arrangements.
The amendments (which are yet to be introduced into Parliament) will apply to relevant transactions entered into on or after 1 July 2022.
Australian Taxation Office (ATO) early engagement service: supporting businesses to invest in Australia
The ATO will introduce a new early engagement service to encourage and support new business investments into Australia, which will be available for eligible investors from 1 July 2021. Broadly, it is intended that the early engagement service will provide "up front" confidence to investors about how Australian tax laws will apply to them and will be tailored to the particular needs of each investor. The service will accommodate specific project timeframes and time sensitive aspects of transactions such as Foreign Investment Review Board (FIRB) approvals, and integrate with the existing FIRB approval process to reduce double reporting of tax information.
In addition, the early engagement service will also provide investors access to expedited private binding rulings and advance pricing agreements. We expect these measures will be welcomed by industry wanting certainty on the tax outcomes of their investments into Australia in a timely manner.
Pauses and modifications to ATO debt recovery for small businesses
The Government will aim to provide small businesses with 'peace of mind' by giving the Administrative Appeals Tribunal (AAT) the power to pause or modify ATO debt recovery actions (including garnishee notices and/or related penalties and interest) in relation to disputed debts until that dispute has been decided by the AAT. Individuals or entities with an aggregated turnover of less than AUD 10 million per year will be able to file an application to the AAT in relation to debt recovery actions connected to tax matters on or after the date of Royal Assent of the enabling legislation. The AAT will be required to consider the potential effect on the integrity of the tax system in deciding whether to approve an application.
Extension of temporary full expensing and loss carry-back
Temporary full expensing of depreciating assets will be extended for an additional 12 months until 30 June 2023, allowing businesses to deduct the full cost of eligible depreciable assets acquired from 6 October 2020 and first used or installed ready for use by 30 June 2023. The temporary loss carry-back measure will also be extended, allowing eligible companies to carry back tax losses from the 2022-23 income year to offset previously taxed profits back to the 2018-19 income year. Companies must have aggregated turnover of less than AUD 5 billion to be eligible for these measures.
AUD 6 million has been allocated to the Treasury and the ATO to accelerate the program of tax treaty negotiations – this follows on from the somewhat elusive references in the 2020-21 budget of “modernising and expanding” Australia’s treaty network, with minimal detail as to what this would entail.
Abolition of Australia's Offshore Banking Unit (OBU) regime
The OBU regime was originally introduced to make Australia a more competitive destination for international finance. However, the rules have passed their use by date and on 12 March 2021 the Treasurer announced that it would reform our OBU regime by removing the preferential tax rate and closing the regime to new entrants, in response to OECD and European Union concerns regarding the regime. The Treasury Laws Amendment (2021 Measures No. 2) Bill 2021 was introduced into Parliament on 17 March 2021 giving effect to these measures by:
- from 2023-24 income year, making the taxable income of an OBU on its eligible activities subject to the relevant corporate tax rate;
- from 1 January 2024, making OBUs subject to withholding tax on cross-border interest income; and
- retrospectively closing the OBU regime to new entrants.
Revised commencement date for corporate collective investment vehicle regime (CCIV)
The Government updated the commencement date of its proposed CCIV measures set out in the Ten Year Enterprise Tax Plan — implementing a new suite of collective investment vehicles to 1 July 2022. These bold measures propose to introduce a tax and regulatory framework for new types of collective investment vehicles. Originally announced in the 2016-17 Federal Budget in response to concerns raised by the Board of Taxation regarding the lack of global competitiveness of the Australian managed funds industry due to tax complexity and lack of familiarity with the prevailing unit trust structure for foreign investors, this updated start date will be welcomed by fund managers.