Submission No. 150 Back to full list of submissions
Download in either PDF or RTF format


The Secretary

Review of Business Taxation
Department of Treasury
Parkes Place

16 April 1999

Subject: PricewaterhouseCoopers Submission to the Review of Business Taxation

Dear Sir

We welcome the opportunity to contribute to the process which will define the future of the Australian taxation system. We attach our submission.

Rather than addressing each of the broad range of issues raised in Discussion Paper 2 "Building on a Strong Foundation", we have sought to identify issues and provide recommendations focused on the following three particular areas which we believe should form critical objectives of Australia’s "new tax system":

1. Enhancing Australia’s performance as "the clever country".

2. Ensuring sufficient retirement funding for an ageing population.

3. Improving the international competitiveness of our taxation system.

We hope our submission will be of assistance and trust that our recommendations will be given due consideration. Should the Review members wish to discuss any aspect of our submission, please do not hesitate to contact me on 02 8266 3317.

Yours faithfully

Tony Harrington

Managing Partner

Tax and Legal Services

Submission to the Review of Business Taxation

1.0 Executive summary

Rather than addressing each of the broad range of issues raised in Discussion Paper 2 "Building on a Strong Foundation", we have sought to identify issues and provide recommendations focused on the following three particular areas which we believe should form critical objectives of Australia’s "new tax system":

1. Enhancing Australia’s performance as "the clever country" – while we have the infrastructure and the intellectual talents to support our position as one of the clever countries, we need a taxation system which encourages, rather than impairs, technological development as a base for future industrial and economic growth.

2. Ensuring sufficient retirement funding for an ageing population – the current levels of retirement savings are hopelessly inadequate in meeting the needs of our ageing population; yet, the proposed reduction in personal tax rates, in conjunction with the needless complexity of the current superannuation rules, acts as a significant deterrent for people to increase their superannuation savings.

3. Improving the international competitiveness of our taxation system – to support a vibrant and growing economy, Australia must encourage both inbound investment by foreign companies and overseas investment by Australian companies. The international competitiveness of our taxation system is a key factor in the investment decisions of these companies.

Key recommendations of our submission include:

Section Recommendation

2.2 maintain and enhance the tax concession for research and development activities;

2.3 provide capital gains tax rate reductions to encourage foreign venture capital investment into Australian technology-based industries;

2.4 introduce a comprehensive regime for the tax deductibility of wasting assets, including intangibles;

2.5 relax aspects of our superannuation and foreign investment fund rules which represent impediments to the flow of foreign talent into Australia;


3.1 in order to maintain the relative attractiveness of superannuation, after implementation of the proposed reductions in tax rates for individuals and companies and a possible reduction in rates on long term capital gains, it will be necessary to improve the tax incentives in this area. We recommend the removal of the 15% tax on superannuation contributions for all taxpayers under the "high income threshold". To the extent it is necessary to maintain revenue neutrality, additional revenue could be raised more efficiently, in the short term, by an increase in tax on the earnings of superannuation funds. However, in the long term, we believe that the only tax on superannuation should occur at the time the benefits are taken from the funds;

3.1 to reduce reliance on the age pension, a limitation should be introduced on the portion of a superannuation payment which may be taken as a lump sum. Subject to the greater of a minimum $ threshold of say $50,000 (indexed) or 30% of the accumulated end benefit, any excess must be taken in the form of a taxable income stream (with rebates applying, as at present, where appropriate);

3.2 limit the application of the proposed entity taxation regime to ensure it does not discourage superannuation funds from diversifying investment risk by investing in collective investment vehicles;

4.1 seek to progressively renegotiate Australia’s International Tax Treaties to reduce the foreign withholding tax cost faced by Australian multinationals seeking to repatriate profits back to Australia (in line with the withholding tax exemption which Australia provides to foreign investors which repatriate franked dividends from Australia);

4.2 allow Australian companies to stream foreign earnings to foreign investors without any additional Australian tax cost;

4.3 ensure that reasonable transitional measures are introduced in relation to any change in thin capitalisation rules affecting foreign investment into Australia.


2.0 Enhancing Australia’s performance as "the clever country"

2.1 Introduction

    1. A Need for Reform

In establishing a framework for its recommendations into tax reform, the first discussion paper released by the Review of Business Taxation ("A Strong Foundation") provides that the recommendations of the review are to be consistent with the aims of:

  1. improving the competitiveness of Australian business and thereby the competitiveness of the Australian economy;
  2. providing a secure source of revenue;
  3. enhancing the stability of taxation arrangements;
  4. improving simplicity and transparency; and
  5. reducing the cost of compliance.

Furthermore, the Review notes that the three major factors driving business tax reform in other countries appear to be:

  1. the need to bring business taxation into line with the global nature of world commerce;
  2. the desire to design the business tax system in a way that makes it more compatible with the goal of job creation and the reduction of unemployment; and
  3. the objective of removing the complexity of legislation resulting from old drafting styles and the continual overlay of new taxation policy on old.

Considering the above factors, in light of the aims outlined by the review, we submit that the focus must be on Australia developing a framework which enhances economic growth and competition in a world market. Once this is achieved, other goals, such as employment growth and taxation revenue streams should follow. However in the absence of a competitive environment, Australian business will suffer against its foreign competitors, rendering inconsequential any other tax reform measures. A simple,

transparent taxation system is of no benefit in circumstances where the underlying principles of that system fail to foster competition and economic growth.

The Review has put forward three national objectives against which a business tax system should be designed. They are:

  1. optimising economic growth;
  2. ensuring equity;
  3. facilitating simplification.

Again, of the three objectives, the need to optimise economic growth is crucial. In its purest form the tax system is established to collect tax on income. It has however always been recognised that taxation policy is an important tool available to Government to redirect private sector activities.

It is submitted that the prime focus should be the encouragement of economic growth. Any facets of the taxation system which inhibit investment in Australia should also be eliminated, as this investment is fundamental to the economic development process.

Furthermore, in endeavouring to promote international competitiveness and economic growth, the tax system should provide incentives for particular sectors, where it is clear that fostering of these industries is beneficial in developing Australia’s economic position for the future.

In relation to simplification, it is submitted that the focus of the review on business investments gives an opportunity to simplify the tax system in this area at the same time as the provisions dealing with intangibles are re-organised to recognise the developing importance of such investments to the future growth of the economy.

    1. International Competitiveness and Economic Growth: Technology and Information Industries

In considering sectors where the taxation system may look to provide incentive for development, it seems clear that some focus should be on companies in technology related industries. All available evidence suggests that these companies are playing an ever increasing role in development of Australia’s economic position (and that of its competitors). Innovation and technological advances, as well as the continuing development of electronic trade and commerce (with subsequent increases in investment and employment growth), will ensure that growth continues to be driven by these areas.

In highlighting trends issuing from the World Economic Forum’s Global Competitiveness Report 1998, Professor Jeffrey D Sachs quotes US Federal Reserve Chairman Alan Greenspan, who stated that "the dramatic improvement in computing power and communication and information technology appears to have been a major force behind this beneficial trend (of higher productivity growth) in the US economy".

Sachs further notes that as a share of total US economic activity, the Information Technology sector grew from around 6.1% in 1990 to an estimated 8.2% in 1998, employing roughly 7.4 million workers (or 6.2% of the total employment). Furthermore, investments in Information Technology (including computers, software and communications equipment) now account for 45% of total business investments in the United States. As a result, Sachs proposes the view that the effective introduction and use of information technology will be a crucial factor in international competitiveness in the coming years.

Research undertaken in Australia supports the proposition that economic growth is linked to innovation and technological development.

In "The High Road or The Low Road" – a report on Australia’s industrial structure, for the Australian Business Foundation Limited (August 1997), promotion of innovation and technology is highlighted as a need to improve economic performance.

The report highlights OECD data which indicates employment growth is greater where IT investment is increased. For example, the US in the 1980’s had an annual employment growth of 3.5%, with IT investment as a percentage of total investment reaching 12%. In comparison, the Netherlands had annual growth rate of employment of between 1 and 1.5%, with comparative IT investment of only 2%.

The report also refers to OECD research which indicates that Australian R&D focuses towards medium-low technology, low technology and resource based industries, as it is in these three areas where Australia exceeds OECD averages. It is however below OECD averages in the high-tech and medium-high tech industries.

The report notes that trends in world trade suggest that high and medium-high technology manufactured goods are among the most rapid areas of world exports growth. Australia’s lack of focus on these areas of technology will impact on its economic position. This is evidenced by an examination of Australia’s manufacturing trade deficit, dissected by technology classification, as a percentage of GDP (refer below).


(Extracted from The High Road or the Low Road)

The above figure highlights the negative impact in the high tech industry, and to a lesser extent in the medium-high and medium-low tech industries.

On a worldwide comparison, Australia’s negative performance in these areas is confirmed (refer following tables).

(Manufactures Trade Deficit by Technology Classification as a percentage of GDP, 1992. Extracted from The High Road or the Low Road).

The need to promote the sector has previously been highlighted to the Government in a number of different forums. For example, in "The Global Information Economy – the way ahead" (a report prepared by the Information Industries Taskforce for the Department of Industry, Science and Tourism – July 1997), the proposal is put forward that Australia requires a National Information Industry Strategy, on the basis that:

  1. the information industries are large and rapidly growing industries that can make a substantial contribution to Australia’s future prosperity;
  2. information and communication technologies are transformative – they have the power to transform business across the economy, to enhance their productivity and to enable them to compete in global markets; and
  3. the information industries are strategic – they are the vehicle for the diffusion of crucial information and communication technologies and related business practices throughout the economy.
    2. The proposals discussed below are directed at three areas of possible reform which, we submit are of particular importance to Technology and Information industry members. We note, however, that we do not advocate reforms which are limited in application to only these sectors. It is our view that there is a bigger picture which must be considered. This bigger picture suggests that the primary factors of production in most high growth sectors in the future are going to be intangibles,

      Peter Drucker’s work (see for instance Drucker, Peter F. 1993. Post Capitalist Society. Oxford: Butterworth-Heinemann. at 17-18) has led him to the conclusion that profound changes are occurring in society such that "knowledge is now fast becoming the one factor of production, sidelining both capital and labour". Drucker is adamant that after the current changes, the primary resource of society will be knowledge. The traditional essentials of the capitalist system, land, labour and capital become restraints rather than the major factors of production.

      There is, then a need for a framework within the Tax Act to deal with these changes.


      2.2 Maintenance and enhancement of the R&D tax concession

      It is recognised that the tax concession for research and development expenditure is only one feature of the broader regime of incentives to encourage research and development, also including START grants and investment innovation funds. However, we submit that the tax concession is a critical element which should be continued and enhanced.

      In a report issued by the OECD in 1996 (Fiscal measures to promote R&D and Innovation, Committee for Scientific and Technological policy), it concluded that business R&D is a key input to innovation, which is an increasingly important factor in firm competitiveness and, at the macro economic level, the main driver of long term productivity growth and higher standards of living.

      Research and Development is, of course, a sub-set of knowledge development behaviour on the part of the private sector. The statutory definition limits the concession to cases where knowledge development is subject to a high risk of failure, although there are arguments that this is too limited a category.

      These comments are consistent with a R&D review undertaken by the Industry Commission in 1995, which found that the withdrawal of the tax concession would lead to a reduction in GDP. The Commission concluded that the 150% tax concession brought net benefits to the Australian economy and recommended its retention.

      It is important to remember that the increase sought in the R&D tax concession is meant to stimulate the creation and production of largely intangible assets and, to some extent, compensate their creators for the leakage of value that will occur. It compensates for market failure. The leakage of value referred to results from the fact that these assets are in part transferred to everyone who works with them. The employer is then not otherwise rewarded for the transmission of knowledge to the workforce. The community, however, benefits from such a transfer.

      Bureau of Statistics data clearly show that R&D increased dramatically upon the introduction of the R&D tax concession (Australian business R&D as a percentage of GDP nearly trebled over the 15 years after the introduction of the 150% tax concession).

      The reduction in the R&D tax concession from 150% to 125% (20 August 1996) has led to a subsequent reduction in R&D investment. Research has estimated that more than $1.5 billion worth of R&D was lost when the R&D rate was reduced from 150% to 125%, approximately a one third reduction on R & D spending.

      For a number of companies, the 125% rate is insufficient to encourage investment in R&D, or to compensate for the administrative burden in complying with the application regulations. It should also be noted that, if the corporate tax rate drops to 30%, it will be necessary to increase the R&D tax concession rate simply to maintain its proportional benefit.


      Return R&D concession to 150%.

      2.3 CGT reform to encourage foreign venture capital funds

      The role of venture capital cannot be underestimated in the development of high technology industries. By its very nature, innovation will involve a greater deal of uncertainty and subsequent higher risk than a number of other investment opportunities available in the market place. As a result, access to venture capital funding is essential to the process whereby innovative/high technology products are developed to a commercial standard.

      Research undertaken by the OECD confirms the link between the provision of venture capital and the development of high-tech/innovative industries. Two reports by the Working Group on Innovation and Technology policy of the OECD Committee for Scientific and Technological Policy, ("Government Venture Capital for Technology based firms":1997, "Venture Capital and Innovation":1996) highlight the importance of venture capital, noting evidence that technological revolutions which have resulted in the transformation of industries have been led by venture capital backed firms. Furthermore, the economic role of venture backed companies is also noted, given their level of growth in comparison to industry averages. Data from the US (where the longest existing and largest venture capital market is located) clearly indicates that venture backed companies are responsible for above average contributions to economic development and employment growth (refer below).

      (Extracted from "Spectator or Serious Player")

      Similar views concerning the importance of venture capital to high technology industries are expressed in the report "Spectator or Serious Player?" (Competitiveness of Australia’s Information Industries:1997). The importance of venture capital to Australia’s technological development has also been highlighted by Senator Richard Alston, Federal Minister for Communications, Information Technology and the Arts (Australian Financial Review, Tuesday, 19 January 1999) and Mr Andrew Thomson, the Former Federal Sports Minister, currently Liberal MP in the House of Representatives (Australian Financial Review Thursday, 4 February 1999). Both stress the need for encouraging capital investment in the technological areas.

      It is implicit that in the provision of venture capital, which is in itself intrinsically high risk, a higher level of return is to be expected by any potential investors. Returns in respect of venture capital investments tend to be in the form of capital gains.

      Given this mode in which investors with venture capital receive a return on their funds, it is clear that Australia’s existing capital gains tax regime is a disincentive for venture capital investors.

      Comparative Rates of Capital Gains Taxes

      By taxing capital gains as ordinary income and therefore subjecting them to Australia’s high income tax rates, the current system inhibits investment in Australia in comparison to countries which exempt capital gains (eg New Zealand, Malaysia or Hong Kong), or which tax capital gains at a reduced rate (eg United States).

      The prohibitive nature of the Australian capital gains tax rate towards investment was confirmed by the Information Industries Taskforce in "The Global Information Economy". The Taskforce summarises its view on the present taxation regime by stating that in its view dividend imputation creates a bias towards high dividend, low growth stocks. At the same time, high growth investments are subject to relatively high capital gains tax. Consequently, the current capital gains tax regime is acting as a major impediment to the development of higher technology businesses in Australia and as a disincentive to high growth, venture and development capital investments. In support of this view, the taskforce refers to the need for encouraging venture capital investment by highlighting the data which reveals the positive impact on employment growth and GDP by venture backed companies in the United States (refer below).

      (Extracted from Spectator or Serious Player)

      In the information paper commissioned by the Review of Business Taxation (An International Perspective: examining how other countries approach Business Taxation – December 1998), the data in respect of the 27 countries surveyed confirm that other countries generally provide more favourable treatment towards capital gains than does Australia’s. Certain jurisdictions will exempt capital gains, while others will apply a reduced rate of tax. In some cases capital losses are offset against other income.

      This survey also highlights the ability for taxpayers and a number of other jurisdictions to claim capital gains tax rollover in respect of business assets and for "script for script" transactions. Such rollover is available in Canada, Ireland, Japan, Sweden, the United States and the United Kingdom.

      The impact of capital gains tax on venture capital investment can best be seen in the following table. This details the level of funds allocated to venture capital firms in the US for the period 1969 to 1992, as well as detailing the change to the grade of capital gains tax payable in the year.


      Top Capital Gains Rate

      Public Offerings

      Amount Raised

      Funds Allocated to Venture Capital Firms

























































































































      John H. Howard and Associates, Coopers & Lybrand (1998) "Impediments Imposed by Capital Gains Taxes on Seed and Start-Up Enterprises".

      The figures would suggest a trend in that the level of investment into the venture capital sector alters as a result of changes in the capital gains tax rate.

      In presenting the above figures, there is no suggestion that the change in the rate of capital gains tax is the sole reason for the subsequent changes in venture capital investment over the period. However, we would submit that capital gains tax is a material factor in the decision making process.

      This point was also made in "Going for Growth" – the Report of the Review of Business Programs (the Mortimer Report, June 1997). The report again surmised that "returns from venture capital investments are taken primarily in the form of capital gains. A tax on capital gains reduces those returns and diminishes the incentive to engage in these high risk

      investments". Furthermore, it noted that the USA recently reduced its CGT, and the resultant submission, by some commentators that this has resulted in an increase in the supply of venture capital.

      We would further submit that providing capital gains tax exemption or a reduction in the tax on capital gains, is not inconsistent with the aim expressed by the Review of Business Taxation, and the government, in that investment is not tax driven.

      In a high risk environment such as venture capital investment, we would note the comments made by the OECD in that tax benefits of this nature reduces the incentive for investment on the grounds of tax shelter development.


      The current proposal to limit capital gains tax to a maximum of 30% may still provide insufficient incentive to investors, especially when compared to the lower rates available in the USA (which accounts for the majority of world-wide venture capital investors), or the CGT regime recently introduced in the UK (which allows for a reduction in the CGT rate applicable, dependant on the length of the period in which the investment is held).

      In terms of providing incentive to investors, consideration should be given to lowering CGT tax rates to the level of countries such as the US or UK. This would involve a reduction in the flat rate to say 20% (consistent with the US) with a further tapering of the rate depending on the period of holding the asset (being the tapered approach introduced in the UK).

      In these circumstances the maximum CGT rate applicable would reduce by 2% for each extra year that the asset is held, reducing the minimum applicable rate to 10% after 10 years.

    2.4 Comprehensive Regime of Tax Deductions for Wasting Assets

Australia’s taxation system is fundamentally designed for an economy of tangibles. It is built on central concepts such as depreciation designed to let organisations using plant and equipment amortise costs over time. Similarly, a single central concept in the tax law (trading stock) deals with goods for trade.

The core concepts in the Tax Act are designed for products in boxes and the machines that produce them. Its structure is designed to provide simple, big picture provisions that enable an economy of tangibles to order its tax affairs fairly efficiently.

But these existing simple, central concepts are less relevant to an economy where the key factors of production are intangible. We are witnessing a profound change in the factors of production internal to an organisation but one which is not reflected in the structure of the Tax Act.

The review (in the "Overview" chapter of the second report) sets out an ambitious goal of achieving a comprehensive regime dealing with "investments". The chapters that follow go some distance towards achieving this, but are still not comprehensive in dealing with intangible assets (or "intangible investments"). In this part of our submission we are using the expression "intangible assets" in a loose non-legal sense to cover all of the concepts discussed, from the traditional such as copyright, patents, to even know–how and corporate knowledge.

Intangibles are now essential to business. Some diminish over time and by statute have a defined, limited life span. Others, such as know-how or secret formulas are renewed every day by business or fluctuate in value. The point is that this is a difficult area crying out for a comprehensive solution which reflects the "big picture".

The main parts of the review which are relevant to this discussion are in:

Chapter 1 "Towards a new policy framework for Wasting Assets"

Chapter 4 "Determining the appropriate treatment of Goodwill"

Chapter 8 "Towards a new policy framework for leases and rights"

Chapter 9 "Leases and similar arrangements over wasting assets"

Chapter 10 "Other leases and rights"

It is submitted that the structure of these chapters fails to complete the process started by the Review’s authors in designing an all embracing regime for intangibles.

We find, for instance that the text of Chapter 1 deals with "wasting assets" but retains a significant flavour of "tangible waste in assets" in its discussion, despite referring to "black hole" and provisions allowing for capital write-off of intangibles.

Chapter 9 refers to Leases and "similar rights" over wasting assets and makes it clear that the authors did not view contractual or statutory rights as wasting assets in themselves. The focus of both was again on the underlying assets. This same issue if found in Chapter 10. This seems inconsistent with the overview in particular and its use of the concept of "comprehensive income base" as the benchmark, and also with the table of capital allowance provisions in Chapter 1.

In trying to suggest how the work of the review might be taken forward, it is worthwhile briefly reviewing the characteristics of intangible assets and how they might be meaningfully categorised in a comprehensive regime dealing with business assets.

Characteristics of intangibles

A significant number of the "assets" referred to in this paper as "intangibles" are fundamentally rights in relation to "knowledge". Accounting systems are generally not capable of dealing with knowledge and other soft intangibles, a fact implicit in the Review’s discussion of the difficulties of moving the "comprehensive" income tax base.

Knowledge is essentially personal and intangible (although in a large organisation the collective intelligence of the workforce will enable it to solve problems of considerably greater complexity than each individual could solve alone). It represents the outcome of humans interpreting information. In addition knowledge is rarely static. Although an organisation might possess a considerable body of knowledge at any point in time it is continuously being updated and changed. Indeed, competitive advantage generally lies in the speed with which an organisation can alter this body of knowledge.

Since it is essentially personal the cost of developing it internally is generally reflected in salary costs. Sometimes information (raw material for the workforce to interpret) or even knowledge (generally a service of passing knowledge from an external party to a member of the organisation) can be acquired externally.

Some of these assets are not diminished by use, although their market value might diminish because their market is assumed to be finite for practical purposes.

Knowledge, secret information and know-how

The first group of intangible asset which we will describe can be called "corporate knowledge, secret information or know how". It is submitted that these are wasting assets which is not necessarily protected by strong legal rights. It is generally developed internally and through the activities of the members of the organisation. In such circumstances the cost of manufacture is expensed from year to year. In the past, if an obvious and easily identifiable project was examined by the ATO it would often be argued to be capital and non-deductible in nature, depending on the business of the taxpayer; for example a market research study by a company into a completely new market or technology.

The proposed "black hole" provisions would then deal with this anomoly and provide a treatment consistent with the main body of such corporate expenses which are simply claimed as salary and wages. It is arguable this is an entirely reasonable outcome since most of these assets really do have a limited life. There are exceptions, but these will become frequent as business enters an environment of continuous product and service improvement. It is then also arguable that such material acquired from a third party should give rise to an immediate deduction (important commercial information disclosed for a fee, for instance). It is likely that such items often do get expensed for taxation purposes immediately as fees for services, without significant examination of the role of the information conveyed.

Contrasted with Goodwill

Such an approach, will however, immediately causes a conflict with the proposals in relation to goodwill. Goodwill is of course a different things to lawyers, accountants and economists. The former see an item of property which exists on its own. Accountants see a balancing figure between tangible assets of an enterprise and the price actually paid for it, while economists argue that goodwill is at all times a part of the price attributable to intangible assets which accountants and lawyers are not capable of adequately describing, and which they therefore ignore. To the economist, for instance, a substantial part of the "goodwill" figure might be attributable to the sum of the operating knowledge of the organisation possessed by all of its members. This is, of course, precisely the same item as identified in the previous paragraph as justifying an immediate deduction.

The ATO would argue that the enduring nature of goodwill prevents its inclusion in a regime dealing with immediate deductions for such intangibles, but this simply misunderstands the nature of such assets. The body of knowledge in such a case is truly wasting in nature, and the apparent maintenance or increase in its value is in reality simply a recognition of the new additions to the pool each day by the workforce. So, a discussion of goodwill which starts from the ATO perspective raises the argument that at least part of the wages of most organisations should properly be amortised and written off over the life of the knowledge generated.

The discussion above, it is submitted, suggests that there is a need to better explore the overlap between deductions for wasting intangibles and the treatment of goodwill.

Statutory and contractual wasting intangibles

The next most easily recognisable group is the traditional group of intellectual property recognised and protected by statute. This includes copyright, patents, registered designs, for instance. These have a defined statutory life, although often their commercial life is shorter. They are able to be dealt with in a variety of ways chiefly through granting contractual rights to a variety of parties.

Their value will typically waste over time and the options discussed by the Review are a sensible starting point.

Obviously, however any regime adopted for them should be consistent with the overall regime dealing with wasting assets. It seems the ATO’s reluctance to do so is driven by a concern that not all wasting assets be dealt with in the same manner. It appears that they are concerned that some wasting assets, particularly those representing rights in relation to non-wasting assets, should be treated as a disposal of an underlying asset under, say, the CGT provisions (see for instance the discussion in chapter 9).

As an aside it is important to note that these items are defined by and regulated by statutory regimes other than the Tax Act. Any review of this area must surely examine the use of cross-referenced definitions, in order to avoid the strange outcome of the recent software amendments failing to use a well developed body of copyright law dealing with the definition of computer programs.

The current review then provides an opportunity to create a more evolved tax picture, which accounts firmly for such intangibles. It hints at this with its proposals for wasting and non-wasting assets and for goodwill.

There are at least two reasons why this clarity of outcome won’t be achieved in the current review (and why this very important task of real tax simplification remains as an urgent task ahead of us).

First, there is a fundamental failure of accounting systems to deal with some of these intangible business assets. This is because of the difficulty of measuring and cataloguing them. Everyone knows they are there and they are valuable, but traditional accounting systems are not capable of dealing with them. Interestingly the share market appears convinced it can value them.

The second reason why we shouldn’t yet expect a single provision covering intangible assets is that some of the existing provisions offer favourable concessions and industry will be reluctant to give these up. The review has not attempted a task of costing removal of the existing multiple capital allowance provisions and their replacement with a single comprehensive regime. It is submitted that this is a necessary task to bring affected parties to the table in order to achieve a new order in this area of the act.

Oddly enough, although the review has a stated goal of not creating new tax policy, there is a real danger that the existing treatment of this area is currently so muddled that their current proposals will actually alter the position of some taxpayers for the worse.

This is particularly the case since a number of rulings currently administered by the ATO deal with areas that Governments have not been prepared to legislate. Broadcasters, for instance, currently benefit from concessions which are in tax rulings rather than tax law. The proposed changes would presumably overturn these rulings. It is noted the Review provided a comprehensive listing of Tax Act provisions in this area, but it is submitted that the rulings and administrative practices of the ATO should also be catalogued and discussed, since the process will otherwise risk being categorised as an example of the ATO operating by stealth to withdraw rulings it later decided were not in the interest of the revenue.


We recommend the introduction of a comprehensive regime for the tax deductibility of wasting assets, including intangibles. A program of seeking fundamental change to these provisions of the Act will require further work which is not possible within the time frames given to the review. We also recommend the immediate introduction of measures to allow tax deductions for "black hole" expenditure. Such measures should be implemented as a temporary initiative pending a comprehensive review of the area.

2.5 Removal of impediments for expatriate employees

  • We need a system that will encourage the flow of talent into this country as well as Australians travelling overseas for substantial periods of time.
  • The protection of retirement benefits has become a critical issue for these people, ie. they need to be assured that the move between countries is not going to jeopardise the build up of their retirement capital.
  • Most countries, including Australia, are encouraging individuals to fund for their retirement. The ageing of populations is going to make it much harder for taxpayers in the 21st century to fund social security payments to the retirees.
  • Whilst there has been effort in the past, such as through tax treaties, to simplify the tax issues that arise when people move across borders, little has been done to address the barriers created by tax legislation in ensuring retirement benefits aren’t compromised.
  • There is now a need for a simpler tax and retirement system which removes the major concerns individuals have over their retirement benefits if they are to come to Australia for a while or go overseas for a while.
  • In our experience, multinational employers and their employees would like a system which is:
    • simple to understand and administer;
    • does not disadvantage the employee in terms of security, value and the timing of payment of benefits; and
    • generally provide for benefits to be paid in the country of retirement, therefore containing the investment and currency risk.
  • The current Australian tax system (together with superannuation law) as it effects retirement planning needs to be reformed to promote, rather than discourage, the transfer of talented people in and out of this country. This is becoming an increasingly important issue for businesses wishing to capitalise on knowledge gained here or overseas.
  • Set out below are four aspects of the Australian tax system which create retirement planning problems for expatriates and, hence, the businesses they work for.

Transfers of Benefits out of Australia

The current system prevents or severely discourages the cashing out of benefits for transfer overseas. Firstly, superannuation law prevents the payment of "preserved" benefits overseas, unless the person is aged at least 55 and intends never to work again ie is retired. Similarly, even if benefits can be transferred, tax is imposed – even if the person would like to continue to keep the benefits until retirement through an overseas plan.

The problem has been further compounded by the advent of compulsory superannuation in Australia. Whilst there are some exemptions from the compulsory system for certain classes of visitors to this country, these are very narrow and, in the absence of an ability to transfer benefits out, there is a rising number of superannuation accounts which have been left behind by temporary workers visiting this country.

In order to facilitate the movement of retirement benefits overseas, there is a need to:

  • refine the superannuation law to allow the release of funds if they are transferred to an overseas plan;
  • change the superannuation guarantee legislation, administered by the ATO, to provide a broader exemption for visitors working in Australia who continue to be superannuated overseas; and
  • remove any tax providing the benefits are transferred to an appropriate equivalent overseas plan.

As an example of the last point, young people transferring benefits overseas may indeed find that they have suffered at least 45% tax on their retirement benefits, even if they can be transferred, this tax may even be as great as 64% if the benefits are in excess of the individuals Reasonable Benefit Limit.

Transfers of Benefits into Australia

There is currently an exemption from tax whereby superannuation benefits that have accrued entirely while the person was a non-resident are free of Australian tax if received within six months of the person becoming a resident.

However, it is frequently very difficult or impossible to arrange this, depending upon the foreign countries laws. If the exemption is not achieved, then a tax applies on earnings in the overseas fund since the date of residency. This can prove to be a significant figure – and is a personal tax liability even though the benefits may have been (or forced to have been) transferred to an Australian plan, where they are not accessible.

For example, take a person from the UK who has been in Australia for the past eight years and has accumulated pension benefits in an old employer scheme in the UK. As he has emigrated permanently to Australia, he would like to transfer his retirement benefits here. UK pension laws require the benefits to be transferred to an equivalent scheme here and will not be accessible until the person retires.

If he goes ahead with the transfer, he will be personally liable to tax on eight years worth of earnings – in one hit in the tax year in which the transfer is made. This is a clear disincentive for such people to transfer their retirement benefits into this country.

Foreign Investment Fund ("FIF") Tax on Overseas Plans

There is currently an exemption from the FIF rules in respect of overseas benefits which accumulate in an employer maintained plan. However, many people in Australia staying for the long term find that they have to pay FIF tax each year on the growth in benefits that they have in overseas personal pension plans. This tax is payable by the individual, even though the person is unable to access the benefits.

Clearly there is a strong argument for extending the FIF exemption to overseas personal retirement plans, not just employer maintained plans.

Residency of Personal Superannuation Funds

Personal superannuation funds are the fastest growing vehicle for superannuation benefits. However, the tax residency rules on such funds can result in the imposition of draconian tax if the member of the personal plan becomes a non-resident. This is because the management and control of the plan as well as the residency of the member must remain in Australia.

Often, the only option is for the person to wind up the plan before they leave overseas- this can be costly, impractical from an investment perspective and also may be impossible in a short time frame.

For example, if an employer asks an employee to go overseas for three years in December 1999 and the employer has already been contributing to the personal plan up until then, as soon as the employee leaves Australia and becomes a non-resident, the superannuation fund itself becomes non-resident. A 47% tax is then imposed on the assets of the plan – not just the income. This effectively wipes out half the person’s retirement benefits accumulated in the plan.

Clearly, the legislation governing the tax residency of such plans is out of step with the needs of the individual and the employer. The legislation should be changed to ensure that non-residency is not triggered in this way – as a minimum, a grace period should be given to rearrange the trusteeship of the plan to maintain residency.


  • Refine the superannuation law to allow the release of funds for expatriate employees who are transferred to an overseas plan.
  • Change the superannuation guarantee legislation, administered by the ATO, to provide a broader exemption for visitors working in Australia who continue to be superannuated overseas.
  • Remove any tax on benefits where the benefits are transferred to an appropriate equivalent overseas plan.
  • Relax the conditions for exemption of the earnings of foreign superannuation funds where the benefits are transferred into Australia.
  • Extend the exemption from the foreign investment fund rules to overseas personal retirement plans, not just employer maintained plans.
  • The legislation should be changed to ensure that non-residency of a personal superannuation fund is not triggered when an expatriate employee ceases to be an Australian resident for a period of time – as a minimum, a grace period should be given to rearrange the trusteeship of the plan to maintain residency.


3.0 Ensuring sufficient "retirement funding for an ageing population"

3.1 It is clear that superannuation, as a voluntary savings vehicle, requires additional encouragement from the taxation system. However, if the GST legislation is passed, the Government has promised tax cuts for individuals, such that two thirds of the population will have an effective marginal tax rate of 30% or less. This will significantly reduce the relative advantages of an investment in superannuation.

Other current tax reform proposals which, if introduced, will also significantly reduce the relative advantages of superannuation include the reduction in the corporate tax rate and the reduction in the tax rate applicable to long term capital gains.

From a superannuation perspective, 30% is also the rate of tax payable on a superannuation "investment", ie 15% tax on contributions going in, 15% tax on income and 15% tax on benefits. If the rates are so close, what incentive is there for an individual to save through superannuation, where the rules constantly change and the monies must be preserved until age 55/60?

If we are serious about addressing the nation’s dismal savings performance AND weaning our population off the aged pension, superannuation savings and the related incentives must also be addressed – even if it means some cost to public savings in the short term. To this end, we strongly suggest the following measures be considered:

1. for those individuals, whose taxable incomes are below the so-called "high –income-earner" threshold under the "surcharge" legislation (ie $75,857 in 1998/99), no tax be applied to any contributions;

2. for "high-income-earners", only the "surcharge" apply (ie no tax on contributions under section 274);

3. the revenue lost by the removal of contributions tax can be covered by an increase in tax on fund earnings. Given there is nearly $400 billion invested in Australian superannuation funds, an increase in earnings tax by 5% to 10% could be considered. However, in the long term, we believe these taxes should be reduced to nil to provide the necessary incentive for all taxpayers to save for their retirement through superannuation. The point of taxation should be at the end, when benefits emerge, rather than at the three taxing points we currently have.

4. from the date this takes effect, subject to the greater of a minimum $ threshold of say $50,000 (indexed) or 30% of the accumulated end benefit, any excess must be taken in the form of a taxable income stream (with rebates applying, as at present, where appropriate). This would apply to all individuals, regardless of income levels.

This should assist in:

  1. providing incentives to save for retirement;
  2. ensure that the taxable income stream compensates for the short term loss of a tax on lump sums; and
  3. provide a saving in the aged pension spend – smaller amount immediately but substantial amounts in the long term.

Arguments against an income stream in the past have focused on the need for a lump sum to reduce debt at retirement (usually the family home). In our view, this is fallacious in that the tax concessions for savings are intended to provide for retirement, not the funding of a tax free family home, which can also be passed on to children tax free.

3.2 The proposed entity taxation regime ("ETR") sets a benchmark of company taxation. However, today, collective investments are much more aligned to the taxation of the underlying investors, rather than being aligned to some other entity, such as a company. Effectively, the proposals break the nexus between the underlying investors and their own taxation positions.

That benchmark is inappropriate and indeed, if we look at international best practice, it is for collective investments to be aligned to the taxation position of the underlying investor, not of some other regime/entity. So what we are trying to do in Australia is out of step internationally and totally inappropriate.

3.3 The proposed Deferred Company Tax or Resident Withholding Tax regime is linked closely to the ETR.

One of the major disadvantages of this, in relation to investment trusts, is the cash flow disadvantage to the investor. Therefore, the Treasurer’s announcement that cash management trusts and certain widely held investment vehicles would retain their flow-through characteristics, was welcome.

Unfortunately, the definition, in the Review of Business Taxation – Discussion Paper 2, of what would constitute a widely held investment vehicle, appears to be flawed. The definition states:

"….under current tax, a public unit trust is where any of the units are listed for quotation on a stock exchange, the units are held by 50 or more persons, or any of the units are offered to the public. A unit trust where 20 or fewer persons hold 75 percent or more of the beneficial interests in the income or property of the trust is specifically excluded from being a public unit trust. This definition, suitably modified if applying to entities other than unit trusts, may be an appropriate way of defining widely held vehicles."

The problem is that most wholesale trusts in Australia would fall foul of this definition. Even though a fund manager may offer wholesale funds with hundreds of millions of dollars invested, there may only be six investors in that fund, or less.

Most investors in wholesale trusts are superannuation funds and hence they, and their members, still lose.

Further, a large slice of retail fund investment now is coming through Master trusts and operators, such as Asgard and others, use the retail trust purely as an administration vehicle and put all the underlying investment through wholesale trusts.

To remove this problem, a "look-through" exception to the entity taxation regime could be applied in relation to widely held investment vehicles where any investor is a bona fide superannuation fund or an investor, which itself may be a widely held vehicle.

3.4 Under the current law, when a distribution flows through a trust to the end investor, it retains its character. Therefore, if it is capital gains derived from the trust, they flow through to the underlying investor (superannuation fund). Under the ETR proposal, if the trust is caught, there is no such flow through. Any distribution becomes a dividend in the beneficiary’s hands.

So from the superannuation beneficiary’s viewpoint, there is no capital gain flowing through, which could be used to offset any capital losses in the fund. You have a dividend which cannot be offset against capital losses.

The problems will be particularly significant in relation to redemptions. Currently, if a superannuation fund wishes to realise part of its wholesale trust investment, the resulting capital gain is simply calculated based on the difference between the consideration received and the indexed cost base. Under the ETR proposal, it appears that any profit in that redemption is a deemed dividend. It no longer remains a capital gain in the fund’s hands. To generate a capital gain, the fund would have to transfer that asset to someone else or sell it on the Stock Exchange

3.5 In relation to tax preferred income, the Treasurer indicated that any flow-through benefits relating to tax preferred income, which could apply to collective investment vehicles ("CIVs"), are likely to be severely restricted.

Many superannuation funds hold property through collective vehicles because of liquidity and other issues, such as the risk diversification that the pooled vehicle provides. It is not for a tax dodge but for very commercial reasons.

However, there will be a distortion because, if a fund owns a property directly, especially the large funds, it will get the benefit of tax concessions, such as building allowances. Merely because the same property may be held through a collective vehicle, the benefit will not flow through. The end result will be an undesirable situation where superannuation funds will either steer clear of property all together, or will take greater risks through direct ownership.

The other problem is that, if the CIV cannot pass out income tax free, ie without having a deferred company tax payment made, it is likely that the there will be no distribution, unless absolutely necessary. So it may well (unnecessarily) change the yield/growth mix of these collective property trusts.

Finally, in relation to this area, some untaxed or tax preferred income may actually result from accelerated deductions, which are only a timing difference and could reverse out at a later time. In this regard, the imposition of a deferred company tax, which is not offset against future company tax payments, could result in double-taxation.

3.6 The vast majority of superannuation funds are invested through CIVs, such as pooled superannuation trusts ("PSTs") and life policies. Currently, PSTs and life offices are actually the entities which are taxable and they deduct tax and pass to the superannuation fund investor an after tax return. Effectively, the earnings rate or the unit price declared by the life office or the PST is tax paid investment and so basically has no other tax implications when received by the fund.

Under the proposed regime for life offices, the after tax return would reflect a 36 per cent rate of tax. Instead of deducting 15 cents in the dollar from the investment return and passing the net after tax return to the superannuation fund investor, the life office would now deduct 36 cents in the dollar, so the fund will receive 21 cents in the dollar less in terms of the investment return. As most life policy returns are retained within the investment, ie reinvested, the fund will now have less investment return and the compounding effect of that can be quite dramatic.

How the fund can claim its tax credits is yet to be determined. There are three methods set down in the Discussion Paper 2. They may be claimable by the institution itself - so if a fund invests in a life policy with an insurance company, the insurance company has a prima facie tax liability at 36 cents in the dollar and then it may be able to claim the 21 cents in the dollar refund on behalf of the superannuation investor. It may be able to claim that refund concurrently with the payment of the tax on a quarterly basis or perhaps on an annual basis.

If the superannuation fund has to claim the credit or if the life office can claim it back, there is obviously some timing difference between the actual payment of the tax and the claiming of the refund. Clearly there is an additional cost to the superannuation fund investor, especially in cash flow terms.

It should be noted that life offices do not operate on the basis of issuing an individual life policy for every superannuation member and the old whole of life and endowment type policies no longer exist in modern superannuation arrangements. For the types of group policies, which are issued to superannuation funds today, there are no such thing as bonuses. Basically, the policy gives the fund the right to share in the assets of the underlying statutory fund.

An investment linked policy, which is usually a unit linked policy, operates like a PST. There is a unit price struck and the fund holds a number of units. There is no such thing as a bonus allocated at any point of time.
The Tax Act actually defines the superannuation business of a life office as a complying superannuation business, which is usually run through a separate statutory fund. So it is not taxed directly as life business but rather it is taxed as a large complying superannuation fund. That is exactly what it is. It happens to hold investments on behalf of a large number of superannuation investors.

Therefore, to have a new tax regime imposed on this business creates, not only more unnecessary complexity, but will almost certainly drive superannuation funds away from such products, thereby also creating an unlevel playing field with respect to other CIVs.


  • In view of those tax reform proposals (such as the reductions in corporate and individual tax rates, and the reduction in tax rates applicable to long term capital gains), consider the following amendments in order to maintain the relative advantages of superannuation and encourage retirement savings in this form:
    • for those individuals, whose taxable incomes are below the so-called "high income-earner" threshold under the "surcharge" legislation (ie $75,857 in 1998/99), no tax be applied to any contributions;
    • for "high-income-earners", only the "surcharge" apply (ie no tax on contributions under section 274);
    • to the extent it is necessary to maintain revenue neutrality, additional revenue could be raised more efficiently, in the short term, by an increase in tax on the earnings of superannuation funds. However, in the long term, we believe that the only tax on superannuation should occur at the time the benefits are taken from the funds;
    • from the date this takes effect, subject to the greater of a minimum $ threshold of say $50,000 (indexed) or 30% of the accumulated end benefit, any excess must be taken in the form of a taxable income stream (with rebates applying, as at present, where appropriate). This would apply to all individuals, regardless of income levels.
  • Provide a "look-through" exemption from the proposed entity taxation regime in respect of the interests (both direct and indirect) of a superannuation fund in a widely held investment vehicle.


4.0 Improving the "international competitiveness of our taxation system"

4.1 Double Tax Treaties

Tax paid profits can be remitted from Australia to the US without any further imposts, while US tax paid profits suffer a 15% dividend withholding tax on repatriation. This is just one example, although a very important one, of Australia’s inefficient international tax treaties with respect to dividend withholding taxes.

The option in Discussion Paper 2 to allow imputation credits to resident investors for foreign withholding taxes paid by resident companies repatriating foreign profits would improve the outcome for Australian investors. However, it only achieves that at some cost to the Australian revenue, and would have to be paid for by someone as part of a revenue neutral business tax reform process. Moreover, the imposition of high dividend withholding taxes by foreign jurisdictions would continue to impact on reported earnings of Australian based multinationals, increasing the cost of capital for those companies.

While the imputation credits option has some attraction, there is a concern that it could take the urgency out of the need to make a much more determined effort to re-negotiate a more efficient international tax treaty network with respect to dividend withholding taxes.

4.2 Dividend Streaming

Since its introduction in 1987, the dividend imputation system has had an overall positive impact on equity investment by removing the previous bias towards debt. Without the better alignment of international tax systems however, it creates its own bias in favour of companies having mainly domestic operations and a resident shareholder base.

The geographic spread of earnings of Australian based companies has changed significantly over the past decade, with many more companies now reporting foreign earnings as accounting for at least half of their total earnings. However, it would be wrong to conclude that the fact of this change demonstrates the imputation system is not seriously inhibiting global expansion by Australian based multinationals.

More likely, global expansion has occurred in spite of the pro-domestic bias of the imputation system. Companies have had little choice but to expand their offshore operations to achieve the economies of scale without which they cannot continue to deliver shareholder value or attract global capital. This has been a gradual process, and it is only now that large numbers of Australian based multinationals are faced with the prospect of distributing significant foreign earnings to resident investors as unfranked dividends, with the resulting high effective tax rates and higher capital costs.

There is little evidence as yet of Australian based multinationals changing their tax domicile as a result of these problems, and in most cases the associated capital gains tax cost would be considerable. That is not to say, however, that taking such a step might not be attractive in the future, particularly as Australian earnings continue to decrease in relative importance.

There is a strong case for considering measures now that would encourage Australian based multinationals to remain in Australia. It is hardly consistent to be taking steps to encourage certain kinds of foreign companies to set up their regional headquarters in Australia while at the same time doing little to prevent companies that have been based here for many years from leaving.

The issue is relevant across all industry sectors. A resolution is required not in terms of granting a concession to a particular industry sector, but in removing the existing fundamental impediment which exists for:

(a) Australian companies investing overseas; and

(b) Foreign companies wishing to invest into Australian companies with overseas operations.

If an appropriate resolution is not implemented, Australia will lose the benefits of foreign investment capital and the benefits of our existing intellectual capital, as Australian companies look at moving their tax domicile offshore and foreign investors decide against investing in Australia.

One way of addressing the bias against foreign earnings would be to abandon the imputation system altogether, perhaps returning to the classical system of double taxation (a possibility which is canvassed in Discussion Paper 2). Most investors regard the system as being positive, however, and unless accompanied by significant rate reductions, business would not support such a change.

Permitting companies to stream foreign earnings directly to foreign investors would overcome many the difficulties facing Australian based multinationals, although the associated cost to revenue that would need to be factored into a revenue neutral reform outcome. Streaming could be achieved in two ways.

The best solution for companies with the right mix of foreign earnings and foreign investors would be to permit the use of some kind of stapled stock arrangement that enables foreign earnings to flow to foreign investors directly. The amount of the dividend would be the same for all shareholders wherever situated. This method achieves two efficiencies – it preserves scarce franking credits for the benefit of Australian investors as well as avoiding foreign dividend withholding taxes.

The use of stapled stock is not always permitted in other jurisdictions, however. An additional option (which would operate in tandem with a stapled stock arrangement where available) would be to modify the conduit rules so that franking credits are not required to be applied pro rata to domestic and foreign investors until they are exhausted. Instead, the conduit rules would permit foreign earnings to flow to foreign investors without impacting on the franking account.

The two streaming alternatives put forward would not provide significant relief to Australian based multinationals that have proportionately more foreign income than foreign investors. In those cases, resident investors would still face excessively high effective tax rates on the distribution of foreign earnings. While permitting foreign earnings to flow through as tax exempt or allowing a credit for underlying tax would remedy the problem, very few jurisdictions provide double tax relief to that extent on a unilateral basis. The cost to revenue would be substantial, and the benefits would flow disproportionately to high income earners.

A more realistic alternative would be the imputation credit proposal for foreign dividend withholding tax, which goes part of the way in reducing the impact of excessively high tax rates on foreign earnings on distribution to domestic investors. Where the conduit rules are used to stream foreign earnings direct to foreign investors without impacting on the franking account, no imputation credits would arise.

4.3 Thin capitalisation proposals for inbound investment

The current thin capitalisation rules do not take unrelated party debt into account, although back-to-back loans and guarantee arrangements are covered. The proposal is to move to a total debt approach, using either worldwide group gearing or a fixed ratio. Of the two options canvassed in Discussion Paper 2, business would have a preference for a safe harbour fixed ratio (currently 2:1 for non-banks and 6:1 for financial institutions) rather than the worldwide gearing ratio of the group, which would involve compliance difficulties. Where the safe harbour ratio is exceeded, however, an arm’s length test should apply, so that interest would still be deductible if gearing levels do not exceed those of a comparable independent operation.

The threshold of a "foreign controller" under the current regime is set to low at 15%, and should be increased to 50% (possibly combined with a rebuttable presumption of control of 40% to bring the test in line with the CFC rules). In addition, the rules for calculating the amount of foreign equity need to be widened to avoid the unintended consequences that can sometimes arise under the current regime.

While it is acknowledged that moving to a total debt approach brings the Australian system more into line with other thin capitalisation regimes, applying the new regime to existing investments financed on the basis of the current rules is likely to have a detrimental effect on those projects, even with a 1 July 2000 start date. Some kind of transitional arrangements should apply to existing arrangements if the proposed changes are to proceed. For example, the new debt:equity ratio should be phased in over a period of, say, 3 years.


  • Seek to progressively amend Australia’s International Tax Treaties to reduce the foreign withholding tax cost faced by Australian multinationals seeking to repatriate profits back to Australia (in line with the withholding tax exemption which Australia provides to foreign investors which repatriate franked dividends from Australia).
  • Allow Australian companies to stream foreign earnings to foreign investors without any additional Australian tax cost.
  • Ensure that reasonable transitional measures are introduced in relation to any change in thin capitalisation rules affecting foreign investment into Australia.



16 April 1999