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Submission No. 22 Back to full list of submissions
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REVIEW OF BUSINESS TAXATION
A STRONG FOUNDATION

A SUBMISSION BY
AUSTRALIAN INSTITUTE OF PETROLEUM

DECEMBER 1998

CONTENTS

EXECUTIVE SUMMARY

1. INTRODUCTION

2: THE SCOPE OF THE REVIEW

2.1 Fringe Benefits Tax

2.2 Payroll and Indirect Taxes

3. NATIONAL OBJECTIVES

3.1 International Competitiveness

3.2 Certainty and Simplification

4. POLICY DESIGN PRINCIPLES

4.1 Policy Design Principles

4.2 Legislative Design Principles

4.3 Administrative Design Principles

EXECUTIVE SUMMARY

  • International competitiveness must be included as one of the National Objectives of business taxation.
  • Neutrality and efficiency in a tax system are not of themselves sufficient to ensure international competitiveness.
  • Simplification of the tax system should not be achieved at the expense of international competitiveness.
  • The principles of business tax must be amended to emphasise the need to structure business tax to attract international investment, and retain Australian investment in Australia.
  • AIP opposes any recommendations on reform of business tax that act to disadvantage some sectors of industry and benefit others, in order to deliver a neutral outcome.
  • There are major problems with the current administration of the FBT system. There is an urgent need for reform, based on a cost-benefit approach in which the costs of company compliance are fully factored in.
  • The Review should explicitly recognise the impact of payroll and indirect taxes such as fuel excise on the achievement of the overall objectives of the business tax regime. There should be follow-up reviews for these taxes in line with the principles established for business income tax and FBT.
  • Certainty of tax treatment, and reductions in the cost of compliance, must the key benefits to be sought in simplification of the business tax system.
  • A number of important issues need to be considered in any establishment of a comprehensive tax base definition. Until the details are clarified, a final position cannot be established. Accordingly AIP reserves its position on this point.
  • AIP has serious concerns over some of the principles, or their implications, outlined in Review. In particular:
    • Any abolition of accelerated depreciation allowances
    • The treatment of company tax as a withholding tax on distributions, particularly in relation to the effect on overseas investors
    • The unbalanced treatment of losses
    • Taxation of unrealised gains
    • The use of nominal rather than real income.
  • The principles should include a statement that all costs incurred in generating taxable income should be deductible in determining a taxpayer’s taxable income.
  • The establishment of a strong independent Board for the Tax Office is an essential part of the tax reform process.
  • The Board should have substantial user representation.
  • The Board should have the responsibility to assess the performance of the business tax system, compared to objectives, and make recommendations on changes necessary to achieve those objectives. Such recommendations should be binding.

Chapter 1: INTRODUCTION

The Australian Institute of Petroleum was established in 1976 as a non-profit making industry association. AIP’s mission is to promote the reputation and assist in the development of a strong, internationally competitive petroleum industry, with particular emphasis on refining, distribution and marketing of petroleum products.

AIP is pleased to make this submission in response to the Discussion Paper ‘A Strong Foundation’ issued by the Review of Business Taxation in November 1998. The submission sets out the views of AIP and the following member companies of AIP’s Public Affairs and Education Committee:

    • BP Australia Limited (BP)
    • Caltex Australia Limited (Caltex)
    • Mobil Oil Australia Limited (Mobil)
    • Shell Company of Australia Limited (Shell)

The submission covers AIP’s views on the scope of the Review, and the objectives and principles for the Review. The submission also outlines AIP’s position regarding the independent Board proposed for the Australian Taxation Office.

AIP is a member of the Business Coalition for Tax Reform, and supports the submission of the Coalition. AIP also supports the submission made by the Australian Petroleum Production and Exploration Association.

Chapter 2: THE SCOPE OF THE REVIEW

The Review notes that the objective is a stable, simpler, more coherent business tax system, under which the costs of compliance and administration are reduced. This is seen as conducive to a sounder economy, including:

    • More robust investment decisions
    • Improved competitiveness
    • Greater productivity
    • Higher gross domestic product
    • More jobs

AIP fully supports this objective. While AIP recognises that the brief of the Review is to develop revenue neutral recommendations to achieve these objectives, it would be opposed to recommendations that act to disadvantage some sectors of industries, and benefit others, in order to deliver a neutral outcome.

As the Review points out, there are four elements to the Australian business tax system. In addition to business income tax, the business tax system encompasses Fringe Benefits Tax, and various indirect and other taxes. The latter two are a mixture of State and Federal taxes, and were not covered in any detail by the Government’s tax reform proposals.

2.1 Fringe Benefits Tax

AIP supports the inclusion of the Fringe Benefits Tax (FBT) in the Review Process. There are major problems with the current administration of the FBT system, which add significantly and unnecessarily to the cost of compliance by companies.

An example of this is the proposed requirement for the notification on the Group Certificate of an individual employee of any fringe benefits received in excess of $1000. There are, however, some benefits which are not determined down to the individual level and which are not items in lieu of salary. Examples of this are business conference elements subject to FBT and other non-food entertainment provided by employers as a business requirement, not as part of employer remuneration. Not all entertainment is given for the benefit of employees. Rather it is often necessary to build goodwill with customers and other business associates.

The proposed requirements for notification of such items would add an immense burden to the cost of compliance, for very little marginal return. Given this, they are clearly in conflict with the stated objectives of simplification and reductions in the cost of compliance.

There is an urgent need to introduce a cost-benefit analysis approach to business tax systems such as FBT, where the costs of collection overtly include the costs of company compliance. Simpler options to be considered include a formula-based approach, or an average/de minimus approach.

2.2 Payroll Tax and Indirect Taxes

AIP is concerned at the omission of indirect taxes and other taxes. A prime example of this is payroll tax. Payroll tax is a major cost disadvantage to Australian business. As such it impacts very significantly and adversely on business competitiveness and job creation. Not to address the issue is a major flaw in the Review process.

AIP has argued in previous submissions on tax reform that payroll tax should be abolished in any comprehensive overhaul of the tax system. If this is not possible, then AIP urges that payroll tax systems should be simplified, and the rates and systems made uniform across States. This would have the benefit of reducing costs of compliance.

Another indirect tax impost on business that is ignored is fuel excise. AIP recognises that fuel excise is a major part of Government revenue and that the Government has already taken a decision on the future of fuel excise in a GST environment.

However, it would be useful for the Review to recognise the effect of such taxes, and the timing of payments, on competitiveness of Australian business. AIP has stressed in previous submissions to Government the importance of uniformity of excise between products (excluding LP Gas) and between States. With regard to the latter, the establishment of excise subsidies by some States has led to an effective non-uniformity of excise impost between States for petrol and diesel.

AIP urges therefore that the Review explicitly recognises the potential impact of these taxes on achievement of the objectives for the overall review of business tax. The Review should make recommendations, at least, that there be follow-up reviews of these taxes in line with the principles established for business income tax and FBT.

Chapter 3: NATIONAL OBJECTIVES

The Discussion Paper outlines a framework approach for the Review process, based on clearly stated objectives and principles. This is a sound realistic approach and is fully supported by AIP.

The Discussion Paper has proposed three national guiding objectives: optimising economic growth; ensuring equity; facilitating simplification. These are all important objectives and are supported by AIP.

However, AIP believes that there are two other objectives that are fundamental to any review of business tax, and must be added to the objectives.

    1. International Competitiveness
    2. The Discussion Paper stresses the significance of the trends to globalisation, and the competition among countries for investment and taxation revenue. It is acknowledged that these pose real threats to the national revenue base.

      AIP fully concurs with these points. AIP member companies are global companies, and are fully aware of the importance of relative tax regimes in determining investment decisions. The Discussion Paper states that the pre-eminent economic challenges facing Australia are those of lifting sustainable growth performance and enhancing job creation.

      A crucial element in achieving these targets is the attraction of investment, both from overseas and from Australian companies with the choice of locating investment in Australia or overseas. Australia is heavily reliant on inward investment to maintain its growth. Thus the tax system should be conducive to inward investment and encourage the retention of Australian investment within Australia.

      In this regard, AIP urges caution on the reference in the Discussion Paper to an efficient business tax system being able to contribute vigorously to the goals of sustainable economic performance and job creation. This could infer that an efficient business tax system in itself will ensure international competitiveness. In AIP’s view, this would indicate a dangerous degree of complacency. An efficient tax system will be an important contributor to these goals. However, it is most unlikely to be a sufficient contributor, for the goals to be reached. The tax system must explicitly focus on international competitiveness itself, rather than a second-order issue of efficiency.

      AIP suggests strongly, therefore, that the establishment of an internationally competitive business tax system be included as a national objective, with a high weighting.

    3. Certainty and Simplification

The Discussion Paper places a high weighting on the objective of simplification of the business tax system. This is a laudable objective, but should not be achieved at the expense of international competitiveness.

The objective as stated may, however, be misleading. AIP believes that the real benefits to business of simplification lie in reduction of costs of compliance, and in increased certainty of tax treatment. A key factor in investment decisions is tax treatment. If there is uncertainty in what taxation treatment will apply to a proposed investment, there is much less likelihood that the investment will proceed. If financiers perceive that a project carries tax uncertainty on project cash flows, they will generally add a premium fee to the financing, thus worsening the project economics.

Certainty is mentioned in the Paper as one of the factors behind simplification. AIP considers that certainty should be a main explicit objective of the simplification process.

AIP suggests, therefore, the objective of simplification be amended to include certainty. The objective would then read: ‘ Facilitating Certainty and Simplification’.

Chapter 4: POLICY DESIGN PRINCIPLES

AIP supports the explicit statement of the principles proposed to underlie the business tax system. This will add to the important objectives of certainty and equity. We have, however, comments on some areas of the principles.

    1. Policy Design Principles
      1. Defining the Tax Base

The Review has proposed a comprehensive definition of the tax base. This includes, potentially, the net change in value of taxpayer’s assets, whether realised or not.

There are a number of important issues that emerge as a result of such a definition. Until the details of such a definition are clarified, it is hard to formulate a final view on this point, and AIP reserves its position accordingly.

However, some concerns are outlined below:

    • AIP would strongly oppose any proposal to abolish accelerated depreciation allowances.
    • The proposal for the treatment of company tax as a withholding tax on distributions.
    • The unbalanced treatment of losses.
    • Taxation of unrealised gains.
    • The use of nominal rather than (the conceptually correct) real income.

It is also important that any redesign of the tax base address the issue of ‘black holes’ in tax treatment. An example from the downstream petroleum industry is the treatment of demolition costs. This is a major and real cost for the industry at present, as it goes through a restructuring process. However, the costs are not allowed for tax. There seems no justification for this.

Similarly, environmental expenditure receives concessional treatment, but only if it passes the ‘sole or dominant purpose’ test. There seems no logical justification for this restriction, given that the expenditures are of types often demanded by Government authorities or legislation.

It should be clearly stated, as a matter of principle, that all costs incurred in generating taxable income should be deductible in determining a taxpayer’s taxable income.

      1. Affecting Economic Growth

The overriding concept underlying the four principles in this section is that of neutrality. This covers investment, risk, and the treatment of international investment flows. AIP has some major concerns with some of the inferences that flow from this.

As stated above, international competitiveness must be a national objective for the business system. It must be stressed that a neutral, efficient system is not in any way sufficient to ensure international competitiveness.

For international competitiveness to be achieved there must be a close alignment of Australian tax treatment to the realities of competing international tax regimes on investment and dividends. The principles must therefore be amended to explicitly acknowledge the need to tailor tax regimes to attract and retain investment, in line with the suggested new objective of international competitiveness.

On the issue of investment, the inference of the Discussion Paper is that any accelerated depreciation regimes will either be abolished, or will only be allowed after assessment against the national objectives, which (as they stand at present) do not include international competitiveness. This is completely unacceptable.

Tax concessions have generally been established for valid economic reasons, reflecting the particular overall circumstances of industry sectors. A depreciation treatment that is relevant to the industry’s circumstances is crucial for Australian companies to continue to invest in both upstream and downstream oil operations. Without such treatment, investment proposals for Australian oil and gas projects would be greatly disadvantaged, compared to competing projects in other parts of the world.

It must be realised that the oil and gas industry, as with most resource industries, is a global industry. It is also an industry that operates without protection or other forms of government assistance. Many countries are competing for projects in this industry. Accelerated depreciation is both a necessary and an appropriate treatment to attract such investment. Without such incentives, the resource industry will increasingly be located overseas, in countries with more competitive tax regimes, tailored to attract such investment.

It should be stressed that Australia has a competitive advantage in resource industries. It would be completely wrong to negate this advantage by inappropriate tax treatment.

An example of this was the recent decision by BP to make a major investment at its refinery at Bulwer Island in Queensland. This investment, at a total cost of approximately $450 million, is designed to allow the production of environmentally advanced petroleum products and other products. The project includes state-of-the-art technology, and is designed both to meet the Government’s preferred direction in fuel quality and also to develop new export markets. The investment could have been made in Australia or in nearby Asian countries. Important factors behind the decision to locate the investment in Australia were the availability of accelerated depreciation and R&D concessions. These tax concessions improved the project’s economics and helped approval for the project, against competition from rival projects available to the BP Group in other countries.

The Discussion Paper contains the principle of balanced taxation of international investment. This must apply to inward investment as much as outward investment.

In particular, the tax treatment of dividends must address the international element. It would be futile to try to attract overseas investment if overseas investors are disadvantaged in the treatment of dividends on their investments. If changes to the tax regime mean that overseas shareholders cannot reclaim tax paid in Australia, then overseas shareholders must be paid on a dividends before tax basis, to avoid double taxation of income.

    1. Legislative Design Principles

AIP is generally supportive of the principles outlined.

 

4.3 Administrative Design Principles

AIP supports the principles outlined in the Discussion Paper. It is particularly important to engender principles of fairness, certainty, minimal compliance costs for users, real consultation, and flexibility into the business tax system.

It is also particularly important to improve the rulings process. These must be timely, consistent, reliable and contestable. With regard to the last point, any review of rulings must be through an independent process, to avoid the Tax Office acting effectively as judge and jury on its own rulings.

The Discussion Paper seeks comments on some possible formats for a Board of Directors for the Tax Office. All these formats focus on an advisory capacity for the Board. AIP believes that none of the formats proposed go far enough.

AIP believes that an essential element of the tax reform process is the establishment of a strong independent Board, with substantial user representation. As well as the normal Board responsibilities of strategy development and resource management, the Board should have specific responsibilities to:

    • Manage and control the ATO tax administration function.
    • Assess the performance of the business tax system against the published objectives and principles. In this respect, the Board could consider comments from users.
    • Assess the performance against the need to minimise compliance costs, and continually seek opportunities to reduce such compliance costs for users.
    • Recommend any changes necessary to achieve the objectives and principles

Furthermore, to be effective, the recommendations of this independent Board must be binding on tax authorities.