ONE of the main features of the tax system is the role of the Tax Office in telling taxpayers how to conduct their tax affairs. It does this by issuing draft or final determinations on how it interprets tax and other legislation.
It can be extremely helpful when the Tax Office interprets legislation reasonably, but there have been many cases where the original intent of the legislators is ignored and fairness is sacrificed to maximise tax revenue.
Interpreting tax legislation has been made harder for both the Tax Office and tax professionals by the poor quality of legislation produced by Federal Parliament. There have been two recent examples of Tax Office rulings concentrating on maximising revenue while dealing with poorly drafted legislation.
People who invested in tree-farming managed investment schemes, through companies that have subsequently gone into liquidation, have been dealt a blow by a Tax Office interpretation of legislation relating to tax deductions for these investments.
The poor drafting of this legislation is evidenced by the fact that in some cases these investments became Ponzi schemes, and the investors were given no protection from greedy banks, rapacious liquidators, and inept or dishonest managers of the schemes.
The determination issued by the office will disallow a tax deduction to investors for amounts paid where the trees were not planted. This means if the manager of a scheme has used growers' funds to prop up their ailing business, rather than the funds being used for the planting of trees, the growers will have lost money and be denied a tax deduction.
The other example of the Tax Office dealing with badly drafted legislation, and not getting its interpretation correct, was a draft self-managed super fund ruling last week relating to borrowings within a superannuation fund. This draft ruling was issued to correct a previous ruling.
At the heart of the legislation allowing self-managed super funds to borrow to buy an asset were two main requirements, the first being that any loan taken out by a super fund had to be a limited recourse borrowing arrangement in other words the loan could not put at risk any of the other assets of the super fund. The second requirement was that the asset must be owned by a warrant trust.
In the original ruling, the Tax Office said that where a property was situated on several titles, a separate warrant trust had to be set up for each title. This would have led to the ridiculous situation of a super fund that bought an income-producing building on two titles paying to set up two warrant trusts.
In its new ruling, the Tax Office concedes that a single asset can be on several titles and therefore only one warrant trust will be required. It will also allow borrowed funds to be used to repair an asset held by a warrant trust but not to improve or alter the original asset purchased. Though borrowed funds cannot be used to improve or alter an asset bought through a warrant trust, a super fund can use its own cash from contributions or selling other investments to improve it.
Hopefully the Tax Office will also change its ruling on managed investment schemes.
Frequently Asked Questions about this Article…
What does the Tax Office ruling mean for tax deductions on tree‑farming managed investment schemes?
The Tax Office has issued a determination that will disallow tax deductions for amounts paid where the trees were not planted. That means investors who paid into tree‑farming schemes but did not have trees planted — for example because managers diverted funds or the scheme failed — may be denied the tax deductions they expected.
If a tree‑farming scheme became a Ponzi or the manager misused funds, did investors get legal protection?
According to the article, the poor drafting of the legislation meant investors were often given no protection from greedy banks, rapacious liquidators, or inept or dishonest managers. The Tax Office interpretation has in some cases removed the expected tax relief for those harmed investors.
How has poor legislative drafting affected Tax Office rulings and everyday investors?
Poorly drafted tax laws have made interpretation harder for both the Tax Office and tax professionals. The article notes this has led the Tax Office in some rulings to focus on maximising revenue, sometimes ignoring original legislative intent and sacrificing fairness — outcomes that directly affect everyday investors.
What are the key borrowing rules for self‑managed super funds (SMSFs) buying an asset?
The legislation allowing SMSFs to borrow to buy an asset includes two main requirements: the loan must be a limited recourse borrowing arrangement (LRBA), meaning the loan cannot put other super fund assets at risk; and the purchased asset must be owned by a warrant trust.
Do SMSFs need a separate warrant trust for each title if a property spans multiple titles?
The Tax Office originally said a separate warrant trust would be required for each title, but in a revised draft ruling it concedes that a single asset can be on several titles and therefore only one warrant trust will be required for that single asset.
Can SMSFs use borrowed funds to repair, improve or alter an asset held in a warrant trust?
The Tax Office ruling allows borrowed funds to be used to repair an asset held by a warrant trust but specifies borrowed funds cannot be used to improve or alter the original asset purchased. However, a super fund can use its own cash — such as contributions or proceeds from selling other investments — to improve the asset.
What is a limited recourse borrowing arrangement (LRBA) and why does it matter for SMSF loans?
An LRBA is a type of loan that limits the lender's recourse to the asset purchased with the loan, so the loan cannot put other assets of the super fund at risk. It is a core requirement in the legislation for SMSFs borrowing to buy an asset, and failing to meet LRBA rules can affect the fund's compliance.
Is the Tax Office likely to change its rulings on managed investment schemes that affected investors?
The article expresses the hope that the Tax Office will change its ruling on managed investment schemes, but it does not state a definitive outcome. It highlights concerns about current interpretations and poor drafting that have disadvantaged some investors.
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