Source document: https://docs-lawep.s3.us-east-2.amazonaws.com/1697628174812.pdf (Australia)
Australian Government "",<;embl~~ " Australian Taxation Office Second Commissioner of Taxation Committee Secretary Senate Economics References Committee PO Box 6100 Parliament House CANBERRA ACT 2600 Dear Dr Dermody Australian Taxation Office (ATO) submission - inquiry into forestry managed investment schemes Thank you for your letter to the Commissioner dated 15 July 2014 inviting the ATO to make a submission to the Committee on its inquiry into forestry managed investment schemes (MIS).
The Commissioner has asked me to respond on his behalf.

Attachment 1 contains the ATO's submission on our areas of responsibility as they relate to this inquiry.

I trust this information will assist the Committee and am happy to make my officers available to provide further assistance as required.
Yours sincerely Neil Olesen Second Commissioner of taxation 04 September 2014 T +61 {0)2 6216 1111 PO Box 900 Civic Square ACT 26081 Australia ato.gov.au Forestry managed investment schemesSubmission 22 AUSTRALIAN TAXATION OFFICE (ATO) SUBMISSION TO INQUIRY INTO FORESTRY MANAGED INVESTMENT SCHEMES ATTACHMENT 1 BACKGROUND As the Committee is aware, forestry and other agribusiness MIS arrangements have had a chequered past from the mass-marketed investment schemes of the late 1990s and early 2000s to the more recent collapses since 2008.
These arrangements have been the subject of a number of earlier parliamentary reviews, including reviews by the Senate Economics References Committee, the Joint Committee of Public Accounts and Audit and the Parliamentary Joint Committee on Corporations and Financial Services, as well as questioning at Senate Estimates hearings.

A TO's response to the terms of reference relevant to the ATO: 1.
Current legislative framework of forestry MIS - relevant taxation provisions Prior to 2007, forestry MIS arrangements were generally structured so that participants were said to be carrying on a business and deductions for investment expenses were treated accordingly under the taxation provisions 1 • In 2006, developments in corporations and tax law cases prompted the ATO to reconsider its view on the deductibility of investments in registered agribusiness MIS.
The ATO's reconsidered view was that the amounts paid by investors were capital in nature and were therefore not deductible.

However, as the matter was not free from doubt, the ATO sought to minimise impacts on the agribusiness MIS sector by deferring application of its reconsidered view while working with industry to test the matter through the courts in an A TO-funded test case.
On 19 December 2008 the Full Federal Court found that the expenses were not capital in nature and were allowable deductions incurred in carrying on business by participants in agribusiness MIS (Hance & Hannebery v FC of T2 ) .

This decision applied to all agribusiness MIS, including forestry MIS, where the schemes are structured for investors to carry on a business.
Division 394 In 2007, Parliament enacted a separate taxation regime allowing upfront deductions to investors in qualifying forestry MIS (Division 394)3 , leaving other agribusiness MIS to be dealt with under the ordinary tax law provisions.

To be eligible for the upfront deductions, the investment in the forestry arrangement must meet the 70% Direct Forestry Expenditure (DFE) rule4 .
This rule broadly requires 70% of the fees paid by investors under the forestry MIS to be applied to the establishment, maintenance and harvesting of trees.
1 Through deductions for expenses being allowed under section 8-1 of the Income Tax Assessment Act, 1997 2 (2008] FCAFC 196 3 Division 394, Income Tax Assessment Act 1997 4 Section 394-35, Income Tax Assessment Act 1997 2 Forestry managed investment schemesSubmission 22 Division 394 generally allows greater tax benefits, as deductions for the entire project may be deductible in the first year, but Division 394 forestry MIS investors need not be carrying on a business.
However, there are additional benefits available to participants who are carrying on a business that Division 394 does not cover, including GST input tax credit refunds for creditable acquisitions (for fees paid by investors in carrying on their enterprise) and deductions for interest on loans (which are excluded from the structure of Division 394 ).

The ATO is currently aware of only 3 entities offering new agribusiness MIS, all of which are Division 394 forestry MIS.
All of these entities have approached the ATO for product rulings or private rulings for their forestry MIS, in order to obtain certainty about the application of Division 394 and, in most cases, the application of the non commercial loss provisions (see below).

We continue to work with Treasury on law design, particularly about whether Division 394 is effective in achieving its policy intent (noting that the ordinary deduction provisions would still apply to forestry MIS, if Division 394 did not apply).
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The ATO's role in administering and regulating forestry MIS The ATO is responsible for administering the tax laws, including their application to forestry MIS arrangements.

In addition, the ATO is responsible for issuing public and private rulings on the application of taxation laws to those arrangements.
The role of the rulings system The Commissioner of Taxation issues private and public rulings to provide certainty to the public on the tax consequences of arrangements, by giving his opinion on how the tax law applies, but not on the commercial effectiveness of arrangements.

Taxpayers can request a private ruling to find out the Commissioner's view on how the tax laws apply to their particular circumstances.
A public ruling enables the Commissioner to rule on how the law applies generally, or how it applies to a particular class of taxpayers or arrangements.

In response to the spread of mass-marketed schemes , product rulings were introduced in 1998 to let potential investors satisfy themselves about the bona fides of tax benefits which were said to be available in marketing documents for so-called tax-effective investments.

Product rulings are a form of public ruling.


A product ruling sets out the tax consequences of an arrangement, giving investors certainty about the tax benefits that are available if the arrangement is implemented exactly as it was described in the ruling.

Promoters of tax-effective arrangements may apply for a product ruling in relation to a 'product' that they intend to offer to a number of participants.
These participants enter into substantially the same contractual arrangements and transactions with a common entity, or a common group of entities, in return for the payment of fees or other consideration .

A 'product' may be described as, among other things, an investment arrangement, a tax-effective arrangement, or a financial arrangement.
Often, a product is offered to the general public by way of a document, such as a product disclosure statement (PDS), but it may also be offered to individuals on an invitation basis (such as for sophisticated investors).

Importantly, PDS are required5 to include an explanation of the tax consequences of the arrangement, often using a product ruling to meet this requirement.
5 Section 10130(1 )(h) of the Corporations Act, 2001 3 Forestry managed investment schemesSubmission 22 The tax consequences ruled upon in MIS product rulings include the availability of upfront business deductions and consideration of timing issues, such as the prepaid expense rules and the non-commercial loss rules.
For qualifying forestry MIS schemes, the ATO also confirms that an arrangement meets the 70% DFE rule under Division 3946 • Product rulings are not issued to assist a promoter or arranger to market a project, but rather to provide guidance to both potential participants and their advisors about the application of the tax laws to their arrangements.

Rulings only bind the Commissioner where the arrangement is implemented in accordance with what is described in the relevant ruling.
The ATO warns potential participants to closely examine the overall financial merits of an investment product before making a decision on whether or not to invest.

We expressly caution potential participants that the ATO does not sanction or guarantee any product as an investment.

We do not give any assurance that the product is commercially viable, that the projected returns will be achieved or that fees charged by managers or projected returns are reasonable.
An example of this caution is the following extract from the ATO's Product Ruling template, published with each product ruling : The Commissioner does not sanction or guarantee this product.

Further, the Commissioner gives no assurance that the product is commercially viable, that charges are reasonable, appropriate or represent industry norms, or that projected returns will be achieved or are reasonably based.
Potential participants must form their own view about the commercial and financial viability of the product.

The Commissioner recommends a financial (or other) adviser be consulted for such information.
This Product Ruling provides certainty for potential participants by confirming that the tax benefits set out in the Ruling part of this document are available, provided that the scheme is carried out in accordance with the information we have been given, and have described below in the Scheme part of this document.

If the scheme is not carried out as described, participants lose the protection of this Product Ruling.
In the early period of the product ruling system we became aware of some instances where the ATO view expressed in product rulings had been selectively quoted in marketing materials.

We subsequently tightened the terms of use of product rulings to prevent this from recurring.

When an entity applies for a product ruling , we require full disclosure of the arrangement and accompanying documentation so that we can make a proper assessment of the tax consequences for investors.
We also require7 implementers of product ruling arrangements to notify the ATO of any material differences in implementation of the arrangement ruled upon.

If the scheme is carried out in a way that is materially different to that described in the product ruling, then the tax consequences will depend on the facts of the arrangement as it is actually implemented.

In these circumstances, the taxpayer may seek a private binding ruling to clarify these tax consequences.
6 Direct Forestry Expenditure Rule section 394-35 Income Tax Assessment Act 1997 7 Through the Terms of Use signed by applicants prior to issue of a Product Ruling.

4 Forestry managed investment schemesSubmission 22 In addition to specific advice on product ruling arrangements, we conduct annual awareness campaigns targeting potential investors in schemes.

For example, we developed a YouTube video Recognising tax avoidance schemes, presented by Paul Clitheroe.
The non-commercial loss provisions Forestry MIS projects involve a long period between the establishment of the trees and their felling for sale of the timber produced, meaning that investors will seek to claim deductions for their expenses for a number of years before they receive income from the project.
The tax code contains non-commercial loss provisions8 to act as an integrity measure by preventing losses from non-commercial activities that are carried on as businesses by individuals (alone or in partnership) being offset against other assessable income in the income year the loss is incurred.

These provisions operate to defer losses from business activities unless they satisfy a test, are eligible for an exception, or the Commissioner exercises the relevant discretion9 .
These rules apply to agribusiness and forestry MIS projects that are structured so that investors are each carrying on a business.

This regime includes a Commissioner's discretion to allow deductions to be claimed to deal with "a business activity that has a lead time between the commencement of the activity and the production of any assessable income.
For example, an activity involving the planting of hardwood trees for harvest, where many years would pass before the activity could reasonably be expected to produce income.10 " To determine whether to exercise this discretion, we need to consider the period in which that project is intended to become commercially viable, so for forestry MIS, we require applicants for product or private rulings to provide evidence from independent experts about what is an appropriate lead time for that particular kind of forestry project in the relevant location.
Typically the discretion will be exercised up to the year before the timber will be harvested.

Due to the need for the Commissioner's exercise of this discretion for agribusiness MIS involving carrying on of a business, almost all such schemes were subject to product (or private) ruling applications, including most forestry MIS.

However, some recent Division 394 schemes have not included features of carrying on of a business and so ATO rulings have focused solely on the application of Division 394.
Taxpayer Alerts We issue taxpayer alerts as an early warning when we have concerns that a particular arrangement is high-risk to taxpayers and /or to the tax or superannuation systems.

Taxpayer alerts are usually issued while we are still in the process of determining the ATO view in respect of the arrangement.

Each taxpayer alert provides a brief description of the arrangement and highlights the features we have concerns about.
The following are examples of taxpayer alerts that concern the managed investment scheme industry.

8 Division 35 of the Income Tax Assessment Act, 1997.

These provisions have applied from 1 July 2000 and are specifically addressed in product rulings .

9 Paragraph 6 of Taxation Ruling 2007/6 10 Note to section 35-55(1 ), Income Tax Assessment Act 1997.
5 Forestry managed investment schemesSubmission 22 Taxpayer Alert 2008111 This taxpayer alert describes land impairment trust arrangements associated with forestry MIS.

These arrangements involve the sale of land at an impaired value by a member of a group of entities that are treated as a consolidated group for income tax purposes.

This taxpayer alert outlines a number of concerns we had with this arrangement.
The issue of the taxpayer alert resulted in this arrangement ceasing to be a feature in agribusiness or forestry MIS arrangements.

Taxpayer Alert 2009113 This taxpayer alert describes an arrangement where a purported partnership is inserted into an investment in a forestry, agricultural or horticultural MIS in order to generate deductions for the newly inserted partners.
In addition to other taxation issues, because of the inserted partnership, the implementation of the arrangement is likely to be materially different from that described in any relevant product rulings for the underlying MIS.

This taxpayer alert describes an arrangement that is substantially similar to the arrangement in the Ludekens and van de Steeg promoter penalty decision outlined below.
Working with the industry As stated earlier, the ATO is aware of only 3 entities remaining in the industry that are currently offering new forestry MIS arrangements.

We continue to work with these entities, including issuing product rulings (and in some cases private rulings) on their arrangements.
Collapse of the agribusiness MIS industry We have been liaising with administrators and receivers of the failed MIS managers, and replacement managers that have taken over from failed managers, to identify potential tax issues as they arise and to facilitate effective communication with participants.

We publish information for participants on our website and ATO client contact staff are available to provide general advice on tax-related matters to participants who contact us.
We issued a series of tax determinations in response to the collapse of the MIS industry, covering issues relevant to agribusiness MIS in general (including forestry MIS) and matters specific to Division 394 forestry MIS: TD 201017 - does a change of Responsible Entity of a registered agricultural MIS affect the tax outcomes for participants if the arrangement continues to be implemented in accordance with the relevant product ruling?
TD 201018 - does the disposal or termination of an interest in a non-forestry MIS which arises as a result of circumstances outside the control of the taxpayer result in the denial of deductions previously allowed under paragraph 8-1 ( 1 )(b) of the Income Tax Assessment Act 1997 in respect of your contributions to the scheme?
TD 201019 - is a payment received by an investor in a non-forestry MIS upon the winding-up of the scheme, that does not involve the disposal of your interest in the scheme to another person, necessarily ordinary or statutory income under the Income Tax Assessment Act 1997?
6 Forestry managed investment schemesSubmission 22 TD 2010114 - does a failure to plant trees intended to be established under a forestry MIS affect the timing of deductions for expenditure on seasonally dependent agronomic activities where paragraph 8-1 (1 )(b) of the Income Tax Assessment Act 1997 and section 82KZMG of the Income Tax Assessment Act 1936 have previously been ruled to be satisfied?
TD 2010115 - does failure to plant all the trees intended to be established under a forestry MIS covered by Division 394 of the Income Tax Assessment Act 1997 mean that no deduction is allowable under Division 394 of that Act in respect of a participant's initial contribution to the scheme?

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Deterrence measures for tax avoidance and evasion schemes • the Promoter Penalty Laws In the early to mid-1990s, the ATO began to encounter what are referred to as 'mass marketed schemes' and 'employee benefit arrangements'.

These were essentially arrangements which people entered into with the intention of obtaining various sorts of tax benefits, such as generating deductions or the deferral of income receipts for tax purposes.
The promoter penalty laws were introduced in April 2006 to deter the promotion of tax exploitation schemes and the implementation of product ruling arrangements in materially different ways .

Prior to the introduction of these laws, there were no pecuniary penalties that could be imposed on promoters who marketed these schemes.
Furthermore the Commissioner had no power to take legal action to stop the promotion of tax exploitation schemes or the implementation of product ruling arrangements in ways that were materially different from that described in the product ruling .

This resulted in an imbalance of sanctions with promoters obtaining substantial profits from marketing and implementing these schemes while leaving investors exposed to loss of expected tax benefits and substantial penalties under the tax laws.
The promoter penalty laws have 2 limbs.

The first limb applies to impose sanctions on entities that promote tax exploitation schemes 11 impose sanctions on promoters that implement a scheme in a manner that is materially different to the arrangement described in the relevant product ruling 12 .

The second limb applies to .


The Commissioner of Taxation has a choice of remedies available under the promoter penalty laws, including accepting voluntary undertakings or applying to the Federal Court for the imposition of pecuniary penalties or injunctions.
Compliance issues in the MIS industry, including forestry MIS Since the inception of the product ruling system, we have had a program of undertaking site visits and reviews to check the implementation of schemes following the issue of product rulings.
Generally, these site visits and reviews only uncovered minor issues of difference, which we ensured were rectified through liaison with the relevant responsible entities and did not necessitate the withdrawal of product rulings or any other action affecting the tax consequences for participating taxpayers.

We follow up on specific intelligence received from the community about concerns about the implementation of a product ruling scheme.
11 Subsection 290-50(1) of Schedule 1, Taxation Administration Act, 1953.

12 Subsection 290-50(2) of Schedule 1, Taxation Administration Act, 1953.

7 Forestry managed investment schemesSubmission 22 Barossa Vines Ltd13 In one of these cases, the Federal Court imposed pecuniary penalties on the promoter entity and four associates involved with a viticulture MIS for breaching the second limb of the promoter penalty laws.
The Federal Court held that the respondents had promoted an MIS on the basis of conformity with product rulings, but had implemented the scheme in a materially different way.

The Federal Court awarded pecuniary penalties of $625,000 against the promoter and $125,000 each against the four individual associates, in accordance with the joint submissions of the parties.
Ludekens and van de Steeq14 In another case, the Full Federal Court held that two individuals had engaged in conduct which resulted in them being promoters of a tax exploitation scheme (involving a pre-Division 394 forestry MIS) under the first limb of the promoter penalty laws.

In that case the individuals acquired partnership interests in that forestry MIS and received sales commissions and claimed GST refunds .
They on-sold the interests to investors promising tax refunds (from expenses for investing in the forestry MIS) that were not available.

The penalty has not been determined by the Federal Court at this stage.

Other MIS arrangements We have investigated potential contraventions of the promoter penalty laws in other cases relating to MIS arrangements.
However, these investigations have not found breaches of these laws because the circumstances which caused the relevant material differences were outside the control of the promoter, for example as a result of the acts of third parties (e.g.

unrelated parties failing to meet contractua l terms) or due to the unforeseen collapse of the management entity (e.g.

where financing facilities were not renewed by unrelated financiers) .
We share information with other law enforcement agencies 15 and the Australian Securities and Investments Commission 16 as permitted under our taxpayer confidentiality provisions 17 relevant information to other regulatory agencies, such as the Australian Competition and Consumer Commission, as these matters do not fall under a relevant exception to the general restriction on disclosing confidential material.

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However, these provisions do not allow us to disclose 13 FC of T v Barossa Vines Ltd and Others [2014] FCA 20 14 FC of T v Ludekens and Van De Steeg [2013]FCAFC 100 15 Regarding potential indictable, or serious criminal, offences.

16 Regarding potential criminal or civil penalty offences or matters relating to potential breaches of the Superannuation (Industry Supervision) Act.

17 See generally, Division 355 of Schedule 1 to the Taxation Administration Act, 1953.
8 Forestry managed investment schemesSubmission 22