Leading his third Federal Budget, Treasurer Scott Morrison has focussed on tax cut ‘affordability’ and delivering a ‘responsible’ budget that will encourage consumer spending and economic growth, without damaging the reduction of the national debt and drive to surplus

In the lead-up to the 2018 Federal Budget, the elephant in the room (or, more aptly, the “mammoth”), was the size, timing and impact of tax cuts to both workers and businesses.

This is a budget preceding an election so a number of measures within this budget are designed to improve the Turnbull Government standing with voters. Most notably, there has been a key focus on delivering wins for voters in the form of tax cuts and more money in pockets.

However – in the spirit of responsibility – the Treasurer did attempt to manage expectations when he announced to the media in the week before the budget that the proposed tax cuts to lower and middle-income earners would not be “mammoth tax cuts”. He also advised higher income earners that their tax cuts would be phased in over time.

Another vote-chasing initiative is the proposed Baby Boomer package designed to help people prepare for retirement. Under the Pensioner Work Scheme, many contemplating retirement will be able to remain in the workforce and earn more without having their benefit affected. Further support for older Australians will come from the multi-billion dollar funding injection for new home-care packages.

For big businesses, announcements about business taxes confirm that the Federal Government is still committed to company tax cuts. However, whether these can progress through the Senate in the aftermath of the Banking Royal Commission and the resulting negative attention on the big end of town is anybody’s guess. The Government argues that a lower company tax will encourage globally competitive businesses to further invest in Australia; stimulate the hiring of more Australian workers; support real wage growth; and strengthen the Australian economy.

At a macro level, it was common knowledge in the lead-up to the budget release that public transport infrastructure Australia wide would become a key priority on the national agenda.

Victoria is the big winner. The southern state received nearly one-third of the total national $24 billion expenditure. The Government is determined to get Australia working more efficiently through better and bigger infrastructure projects and by strengthening economic conditions via further business investment in infrastructure.

So the winners in the 2018 budget are taxpayers on lower income tax brackets, older Australians and small business.

Briefly some of the key budget announcements include:

  • Income tax cuts – tax relief to reward working Australians, delivered in three stages over seven years.
  • Business – extending the date for the small business instant asset write-off; an overhaul of the R&D tax incentives; a crackdown on multi-national corporations including businesses in the digital economy; and further work on the black economy.
  • Superannuation – new rules for superannuation funds to limit fees; and the provision of services that are not required.
  • Aged care and older Australians – opening up of the pension loan scheme to all older Australians; an ability for pensioners to earn more without reducing their pension payments; an increased number of home care packages and a range of policies to help older Australians live longer and healthier.
  • Infrastructure – massive spending on infrastructure and in particular Australian Public Infrastructure.

In keeping with previous years, this year’s budget delivered few surprises. But the question remains – has Treasurer Scott Morrison done enough to convince the electorate that the Coalition Government should be returned to power? It is a fine balancing act for the Government as it endeavours to appease the electorate – which has not seen an increase in real wages for several years amidst rising household costs – while, at the same time, needing to maintain its position of being fiscally responsible and getting the economy back into surplus by 2019-20.

The MBA team have drawn upon their tax and business advisory experience to bring you their expert views on the 2018 Federal Budget. In terms of economic policy, how does the Treasurer’s 2018 budget rate? How will your business be affected and how will you be affected personally?

Small Business

Instant asset write-off extended

The immediate write-off of depreciable assets costing less than $20,000 purchased by small business entities (with an aggregated turnover of less than $10m) was due to expire on 30 June 2018. The concession has been extended for a further 12 months to 30 June 2019. The concession has been in place since 12 May 2015 and has been very popular with small business entities, particularly at this time of year.

In conjunction with this extension, the current “lockout” laws for small business depreciation rules (these prevent small businesses from re-entering the small business depreciation regime for 5 years after they opt out) will also not apply until 30 June 2019. This means that these small businesses can also potentially still access the immediate write-off.

Small business CGT concessions

From 7.30pm on 8 May 2018, the Government proposes to tighten the small business capital gains tax (CGT) concessions to ensure partners that alienate rights to future partnership income will no longer be able to access the small business CGT concessions in relation to these rights.

This is intended to stop the concession being inappropriately accessed in relation to the assignment of a right to future partnership income to an entity, without giving that entity any role in the partnership.

Division 7A UPE rule strengthened

Division 7A is an integrity rule that requires benefits provided by private companies to their associates to be taxed as dividends unless they are made subject to a complying division 7A loan or another exception applies. Since 2009 the ATO has considered that unpaid present entitlements (UPEs) to corporate beneficiaries of a trust (distributions that were made to the company but not paid) may be subject to Division 7A but also subject to special rules.

From 1 July 2019, the Division 7A legislation will be amended to ensure that UPEs come within the scope of Division 7A.

The Government also announced that it would defer the start date of proposed changes to Division 7A announced in the 2016-17 Budget from 1 July 2018 to 1 July 2019.

Circular trust distributions

From 1 July 2019 specific anti-avoidance rules regarding circular trust distributions will be extended to include family trusts.

The measure applies to stop ‘round robin” trust distributions, where a distribution ultimately returns to the original trustee – in a way that avoids tax being paid on that amount. Tax on such a distribution will be imposed at a rate equal to the top personal tax rate plus Medicare.

Large Business and International

Other than a proposal to investigate further initiatives on taxing the digital economy, no significant new tax measures were noted that would have any major impact on most large business or international dealings. Rather, a number of measures have been proposed to tighten existing rules.

Taxing the Digital Economy

The Federal Government continues its focus on taxing the digital economy, although at this stage no new measures have been announced apart from the promise of a consultation paper to be issued on possible taxing models. Possible solutions that would be canvassed include the introduction of a “digital presence” or “virtual permanent establishment” concept, including having interim measures such as a flat percentage tax based on turnover of a digital business in a particular country.

Definition of “Significant Global Entity”

Under the current Significant Global Entity (SGE) rules, entities that are classified as SGE’s have greater tax reporting obligations (e.g. local and country-by-country reporting) and are subject to stricter anti-avoidance provisions compared to other taxpayers. An unintended outcome of the SGE rules was that the definition of “SGE” was too narrow and only caught groups headed by public companies and private corporate groups that were required to prepare consolidated accounts.

As a result, the Federal Budget proposes to expand the definition of an SGE to include members of large multinational groups headed by private companies, trusts, partnerships and investment entities that meet the relevant turnover tests.

The expanded SGE definition is to apply for income years starting on or after 1 July 2018.

Managed Investment Trusts – more information exchange countries to be added

Two measures were announced affecting Managed Investment Trusts (MITs).

The first measure relates to the proposal to expand the list of countries whose residents can benefit from the reduced 15% withholding (instead of 30%) on certain distributions from MITs. The additional countries to be added are those which have entered into agreed information sharing arrangements with Australia in order to protect revenues.

The updated list is to be effective from 1 January 2019.

The second measure is aimed at preventing the 50% capital gains discount being accessed by certain beneficiaries of MITs and Attribution MITs (AMITs) that should not be entitled to such a discount (e.g. non-resident beneficiaries). This is to be achieved by removing the 50% capital gains discount at the trust level. MITs and AMITs deriving capital gains can continue to distribute such gains that can be discounted in the hands of the beneficiary who qualify.

This measure will apply to payments made from 1 July 2019.

Thin Capitalisation

Two thin capitalisation integrity measures were announced in the Federal Budget.

The first relates to the tightening of the thin capitalisation rules which will require entities to align the value of assets adopted for thin capitalisation purposes with the values adopted in the financial statements. Valuations that were made prior to 7.30PM (AEST) on 8 May 2018 may be relied on until the beginning of an entity’s first income year commencing on or after 1 July 2019.

The second thin capitalisation integrity measure is more technical and is aimed to restrict foreign controlled Australian consolidated groups and multiple entry consolidated groups from accessing certain thin capitalisation safe harbour tests aimed at “outward investors” rather than “inward investors”. This measure is intended to apply to income years commencing on or after 1 July 2019.

Commitment to Company Tax Cuts

The Federal Government confirmed its commitment to gradually cut the company tax rate for all companies to 25% by 2026-27 under a phased approach as set out in its Ten Year Enterprise Plan. Smaller entities currently benefit from the 27.5% rate while the phasing in of the lower 27.5% corporate tax rate to other corporate tax entities with aggregated turnover of $50 million or more would start from the 2019-20 income year.

Indirect Taxes and GST

Excise changes for smaller brewers

The Government is increasing the alcohol excise refund scheme annual cap to $100,000, up from $30,000. Concessional draught beer excise will also apply to 8 litre or greater kegs. These changes will begin on 1 July 2019. The increased cap should provide additional support to local brewers, and also extends to makers of other fermented beverages and distilleries. The change to keg size will allow smaller brewers to gain access to concessional excise rates, as these brewers generally provide their product in smaller kegs than the current concessional keg size of 48 litres. These changes are expected to assist smaller brewers to compete with the major brewers.

GST changes to offshore suppliers of hotel accommodation

Offshore suppliers of Australian hotel accommodation will need to include such supplies in the calculation of their GST turnover from 1 July 2019. The GST turnover calculation is used to determine if a supplier must charge GST. Currently offshore providers do not have to include supplies of Australian hotel accommodation in their GST turnover. As a result of this measure more offshore suppliers will be required to register for GST and charge it accordingly to customers. This is a response to the increased popularity of online booking services and puts local suppliers of hotel accommodation on an even playing field as offshore providers.

Luxury car tax changes for refurbished vehicles

Cars that are taken overseas for refurbishment and re-imported back to Australia will no longer incur luxury car tax from 1 January 2019. The same car, refurbished in Australia, would not incur luxury car tax. This is a fairness measure to ensure there are no additional taxes applied for having the refurbishment done overseas.

R&D Tax Incentive

As expected, and in response to growing concerns pertaining to the R&D Tax Incentive not meeting its policy objectives of generating R&D investments that would not have taken place in the absence of the incentive, the Federal Budget has proposed key legislative changes to the R&D Tax Incentive for income years starting on or after 1 July 2018.

Less than $20 million turnover

For companies with an aggregated annual turnover below $20 million the new refundable R&D offset will be a premium of 13.5 percentage points above a claimant’s company tax rate rather than a fixed rate of 43.5%. This linking will avoid the need for ongoing legislative amendment of tax offset rates as company tax rates change.

Cash refunds from the refundable R&D tax offset will generally be capped at $4 million per annum.

Importantly, R&D expenditure on clinical trials will not count towards the annual $4 million cap. R&D tax offsets that cannot be refunded will be carried forward as non-refundable tax offsets to future income years.

Greater than $20 million turnover

For companies with aggregated annual turnover of $20 million or more, the Budget proposes the introduction of a new R&D premium that links the rates of the non-refundable R&D tax offset to the incremental intensity of R&D expenditure as a proportion of total expenditure for the year. The marginal R&D premium will be the claimant’s company tax rate plus:

  • 4 percentage points for R&D expenditure between 0 per cent to 2 per cent R&D intensity;
  • 6.5 percentage points for R&D expenditure above 2 per cent to 5 per cent R&D intensity;
  • 9 percentage points for R&D expenditure above 5 per cent to 10 per cent R&D intensity; and
  • 12.5 percentage points for R&D expenditure above 10 per cent R&D intensity.

An example in the Budget papers is shown below:

“A company with a 30 per cent tax rate that has $120 million of R&D expenditure for the year and $300 million of total expenditure will have an overall R&D intensity of 40 per cent. It claims R&D tax offsets at a rate of 34 per cent for the first $6 million of R&D expenditure, 36.5 per cent for the next $9 million of R&D expenditure, 39 per cent for the next $15 million of R&D expenditure and 42.5 per cent for the final $90 million of its R&D expenditure. It also benefits from the increased $150 million R&D expenditure threshold as it can claim concessional R&D tax offsets for its R&D expenditure that exceeds $100 million, rather than claiming these offsets at the company tax rate.”

Other changes

Another key change is the proposed increase in the R&D expenditure threshold from $100 million to $150 million per annum.

In an effort to improve the overall integrity of the program, the Budget proposes delivering increased resources for the regulators to ramp up enforcement activity and deliver improved program guidance to participants. It is expected that new guidance will be more prescriptive as to eligibility of activities and expenditure and is likely to redefine the parameters of eligible software R&D.

What was not included was a pre-budget proposed 20% non-refundable premium for R&D expenditure incurred on research institutions to encourage greater collaboration nor a lifetime cap on the refundable component of the offset proposed at $40 million.

The re-engineering of the R&D Tax Incentive will prospectively restore program integrity and will not negatively impact the great majority of smaller claimants that are heavily reliant on the program. The proposed changes will however have a massive impact on larger, less R&D intensive companies and their advisers.

Individual Tax Rates

As expected, there were significant changes in this year’s Budget to the personal income tax rates. The changes come into effect in 3 steps over a 7 year period commencing from 1 July 2018.

Step 1 – Immediate relief for low and middle income earners

For 4 financial years, commencing from 2019 through to 2022, the Government will introduce tax relief in the form of a new tax offset (Low and Middle Income Tax Offset) which will deliver a maximum benefit of $530 per year to taxpayers earning between $48,001 and $90,000. Other taxpayers will receive a partial offset as follows:

TAXABLE INCOME OFFSET
$37,000 or less Up to $200
$37,000 to $48,000 $200 plus 3 cents for each $1 over $37,000
$48,000 to $90,000 $530
$90,001 to $125,333 $530 minus 1.5 cents for each $1 over $90,000

From 1 July 2022, the benefits of this offset will become permanent with the changes to the threshold for the 19% tax bracket (discussed below) and the increase of the Low Income Tax Offset (LITO) from $445 to $645.

Step 2 – Protecting against bracket creep

To address bracket creep, the Government has built on the previous increase to the top threshold of the 32.5% tax bracket increasing this again from $87,000 to $90,000 from 1 July 2018. From 1 July 2022, the 32.5% tax bracket is again adjusted to increase the lower threshold from $37,001 to $41,001 (which extends the 19% tax bracket) and the top threshold from $90,000 to $120,000.

Step 3 – Making personal income taxes simpler and flatter

From 1 July 2024, the top threshold for the 32.5% tax bracket will be increased to $200,000 which effectively eliminates the 37% tax bracket and increases the threshold for the application of the top marginal rate to $200,000 from $180,000.

The changes to the income tax brackets are set out in the table below:

TAX RATE CURRENT TAX THRESHOLDS
INCOME RANGE
NEW TAX THRESHOLDS FROM 1 JULY 2018
INCOME RANGE
NEW TAX THRESHOLDS FROM 1 JULY 2022
INCOME RANGE
NEW TAX THRESHOLDS FROM 1 JULY 2024
INCOME RANGE
0% $0 – $18,200 $0 – $18,200 $0 – $18,200 $0 – $18,200
19% $18,201 – $37,000 $18,201 – $37,000 $18,201 – $41,000 $18,201 – $41,000
32.5% $37,001 – $87,000 $37,001 – $90,000 $41,001 – $120,000 $41,001 – $120,000
37% $87,001 – $180,000 $90,001 – $180,000 $90,001 – $180,000
45% > $180,000 > $180,000 > $180,000 > $200,000

The initial change to the 32.5% bracket in the 2019 financial year is worth $135 to taxpayers earning $90,000 or more (a taxpayer earning $90,000 in the 2019 financial year would also receive the new Low and Middle Income Tax Offset of $530). The other changes to the brackets which result in more significant savings are not due for another 5 and 7 years.

Medicare Levy

The proposed 0.5% increase to the Medicare Levy announced in last year’s Budget (due to take effect from 1 July 2019) will no longer proceed. The consequential changes to other tax rates that are associated with the top marginal tax rate, such as the Fringe Benefits Tax rate, will also not proceed. The Medicare Levy will remain at 2%.

Relief from the Medicare Levy will continue to be offered to low income earners with the 2018 thresholds being increased as follows:

TAXPAYER TAXABLE INCOME
Singles $21,890
Families $37,089 plus $3,406 for each dependent child or student
Single – Seniors/Pensioners $34,758
Family – Seniors/Pensioners $48,385 plus $3,406 for each dependent child or student

Testamentary Trusts

Minors who receive income from testamentary trusts are taxed at normal adult rates, as opposed to the higher tax rates that usually apply to minors.

From 1 July 2019, the concessional tax rates will only apply to income derived from the assets that were transferred from the deceased estate or the proceeds from the disposal or investment of those assets. This measure is designed to stop people injecting other investments (not related to the deceased estate in any way) into the testamentary trust and obtaining the concessional tax rates when distributing to minors.

Income received for an individual’s image or fame

Currently, high profile individuals (such as sportspeople and actors) can licence their fame or image to another entity, such as a company or trust. This enables income derived from the use of their image or fame to be paid to the other entity and taxed at a lower tax rate.

From 1 July 2019, all remuneration (cash and non-cash payments) received for the use of the person’s fame or image will be included in the assessable income of the individual.

Compliance activities

The Government will provide the ATO with additional funding to increase compliance activities which target individual taxpayers.

 After the sweeping changes to superannuation in the 2016 budget, superannuants will welcome a budget that leaves the space relatively untouched.

Low Superannuation Balances

The Government announced a ‘Protecting Your Super’ package with a number of changes targeting those under 25 and those with low superannuation balances. The ATO will proactively find lost super and have it sent automatically to a member’s active superannuation account. This is expected to push $6 billion in super back into 3 million active superannuation accounts. The measures also ban exit fees on superannuation accounts, limit fees on low balance accounts and stop superannuation funds forcing people under 25 to pay for life insurance policies, instead allowing them to choose to opt in.

Retirees

Also affecting large superannuation funds, the Government is introducing a ‘retirement income covenant’, requiring super funds to help members achieve retirement income objectives. Trustees must offer a Comprehensive Income Product for Retirement (CIPR) that provides income for life, no matter how long they live. This will be a major boost to providers of products like lifetime annuities.

In other positive news, the Government will introduce an exemption from the work test for voluntary contributions to superannuation for people aged 65-74 with superannuation balances below $300,000 in the first year that they do not meet the work test requirements. This will apply from 1 July 2019.

Changes to Compulsory Employer Superannuation (SGC)

In another administrative measure, the Government will allow individuals with high incomes and multiple employers to nominate that their wages from certain employers are not subject to the superannuation guarantee (SG) from 1 July 2018. The measure will allow eligible individuals to avoid unintentionally breaching the $25,000 annual concessional contributions cap.

Self-Managed Superannuation Funds (SMSFs)

As expected, the Budget confirms the maximum number of members allowed in an SMSF will rise from four to six from 1 July 2019 to give more flexibility for larger families.

In a surprising move, the Government will change the annual audit requirement to a three-yearly requirement for SMSFs with a history of good record-keeping and compliance. This measure will reduce red tape for SMSF trustees that have a history of three consecutive years of clear audit reports and that have lodged the fund’s annual returns in a timely manner. This measure will start on 1 July 2019, pending consultation with industry stakeholders.

Government Funded Pensions

In a small but welcome change, the Government is planning to increase the pension work bonus to allow age pensioners to earn an additional $25 a week without reducing their pension.

The pension loan scheme is also being expanded, which allows pensioners to use their homes as equity to boost their retirement incomes – a kind of reverse mortgage scheme. The new arrangement will give all retirees of age pension age (not only part-rate pensioners as in the current scheme) access to this home equity release to supplement income in retirement. Full-rate pensioners can draw an income of up to $11,799 for singles and $17,787 by unlocking equity in their home.

Other Measures

Stronger enforcement on tax and super debts

The Government will fund strategies to target the quantum and timeliness of debt collections. This is aimed at those taxpayers who are gaining an unfair financial advantage over those who pay their debts on time. Anecdotal evidence is that the ATO is haphazard in their approach to debt collections and who they target for collection. It is hoped these strategies will address this issue.

Reforms against illegal phoenix activities

The Government will implement a package of reforms to “deter and disrupt” phoenix activity. Phoenix activity generally leaves large debts owed to creditors, employees and the Government. There will be offences introduced for those who assist or facilitate phoenix activity. Measures will also be introduced to limit a director’s ability to resign from a company in certain circumstances. The Director Penalty Regime will also be extended to cover more of the company’s liabilities.

Increased funding for combatting the black economy

The Government will implement strategies to combat the black economy. The ATO will now increase its audit presence, create mobile strike teams and launch a Black Economy Hotline for the public to report such activity. This follows from the Black Economy Task Force that was extended by a year in the 2017 Budget. The purpose of this activity is to move from an educational phase and into an enforcement phase for the black economy.

Taxable Payments Reporting extended to more industries

As another measure to combat the black economy, the Government will require security providers, road freight transport and computer design industries to report annually on payments to contractors from 1 July 2019. This system of reporting is already in use by the building and construction industry, and applies to the courier and cleaning industries from 1 July 2018. The system has the dual purpose of ensuring businesses collect the ABNs of all contractors, and the reporting allows the ATO to data match payments to the contractor’s income tax return.

Cash payment limits and non-deductible non-compliant payments

Two other strategies to combat the black economy were announced.

The Government will introduce a limit of $10,000 for cash payments for goods and services from 1 July 2019. This will not apply to transactions with financial institutions or consumer to consumer non-business transactions. This measure is intended to reduce undocumented cash payments used to avoid tax or money laundering from criminal activity.

From 1 July 2019, Businesses will no longer be able to claim a tax deduction for non-compliant payments (e.g. where PAYG amounts are not withheld from payments to employees or payments to contractors that do not provide an ABN).

No deductions for holding vacant land

The Government will deny deductions, such as interest and rates, while holding vacant land from 1 July 2019. The denied deductions will not be carried forward for future years, but can be added to the cost base of the land if they qualify as a cost base element under the CGT rules. This is a measure aimed to increase the integrity of deductions for vacant land and subsequently increase land supply for developments. Importantly it will not apply to genuine businesses where land is being held for commercial development.