Everyone will be affected by the tax implications of the Australian government's Carbon pollution reduction scheme
By Michael Laurence
Resistance is futile. The tax, price and social impact of the federal government's Carbon pollution reduction scheme will affect everyone.
With its headline feature of emissions trading, the impact will cascade down from the biggest emitters of carbon gases to businesses of all sizes, households and individuals.
Emissions trading is a catch-all approach to fighting carbon pollution. This is despite the government's estimate that a total of 1000 or so entities, those responsible for emission of 70 per cent of Australia's carbon gases, will have to buy permits to emit.
As KPMG tax partner Rod Henderson says, the intention of the emissions trading scheme is to embed the costs of the permits into the price of goods and services.
And, in turn, all businesses and individual consumers will be encouraged by the higher prices, and expected valuable tax concessions, to become much more energy-efficient in their consumption and buying practices, thus reducing their carbon footprints.
As a fundamental principle, the government is determined that the trading of permits will be tax neutral, without allowing the tax treatment of permits to distort the scheme's objective to cut pollution.
Further, the government promises that 'every cent' raised from the sale of permits will be spent to assist businesses and householders to adjust to higher prices and to adopt low-energy options.
Tax practitioners widely believe that the tax system will provide an efficient way to help individuals and businesses deal with climate change and the impact of emissions trading, perhaps through such means as lower personal taxes, plus special tax incentives to business for introducing low-emission technologies.
The government, business and the community are working against extremely tight timelines. The government's green paper, outlining the possible framework of its Carbon pollution reduction scheme, including emissions trading, was released in July, with submissions in response due by early September.
And the exposure draft legislation is scheduled for release towards the end of this year. (The Garnaut climate change report does not cover tax issues.)
Meanwhile, the final report of Australia's future tax system review, chaired by Treasury secretary Ken Henry, will include climate change. Its deadline for delivery to the treasurer is December 2009.
Henderson agrees that the deadlines are tight, including from a tax perspective. 'Specific tax rules need to be progressed with haste, independent of the Henry tax review,' he says, 'to ensure that the government meets its tight timetable.
'However, the Henry review should be encouraged to consider all of the tax system, including proposals to ensure the tax system is climate-change friendly. Emissions trading is one part of it.'
Here are the 10 tax issues that leading tax practitioners believe should be of concern to those who are directly and indirectly affected by emissions trading and its consequences:
1. Top 1000 emitters
The green paper on the government's Carbon pollution reduction scheme gives its initial preferences for the tax treatment of some 1000 of the largest carbon emitters that will have to buy emissions permits for each tonne of greenhouse gases emitted.
No doubt, the centrepiece of the government's favoured position is for a discrete income tax regime with new provisions applying solely to emissions permits, without capital gains tax (CGT) applying. The proposed tax treatment would mimic that of a business's trading stock provisions.
The government's preferred position, which would use a rolling-balance method, is for proceeds from the sale of permits to be assessable.
Any difference in the value of the permits held by a business at the beginning of an income year compared to the equivalent value of permits held at the end of the year will result in either assessable income or an allowable deduction.
Any increase in value of permits would be regarded as assessable income. Any decrease would be regarded as an allowable deduction. (The green paper does not say whether permits should be valued at cost or market value.)
And non-deductible penalties would be issued when large emitters fail to produce emissions permits when required.
The government is proposing that free permits may be issued to some heavy emitters that are exporters. The government proposes that the free permits would be taxable when received, with possibly a tax deduction when sold or surrendered.
Tax practitioners have raised a range of tax issues for the top 1000 or so emitters to consider at this stage.
Nicole Bryant, a tax partner of Pricewater-houseCoopers (PwC), for instance, believes that businesses should be given the flexibility of using historical costs or market-value costs when valuing permits still held at year's end, whatever arrangement best suits their businesses.
In regard to the taxation of free permits when received, Bryant says that this tax treatment could cause cash flow difficulties for a business, particularly when permits are put aside for future use.
2. Businesses outside top 1000 emitters
All businesses, no matter their size, should be aware of the possible consequences of emissions trading, including in relation to their tax positions, says KPMG's Henderson. This is because of its flow-on effect from the heavy emitters that will be actually trading in permits.
However, at the time of writing, the level of tax information available to businesses and individuals was largely confined to the extremely broad information in the green paper on the Carbon pollution reduction scheme, and the timetables for future reports and the preparation of draft legislation.
Tony Stolarek, a national partner of Ernst & Young, describes businesses that will not be directly involved with emissions trading as being 'very much in the wait-and-see mode' about most aspects of the scheme, including the possible tax consequences for their enterprises.
'They will be potentially affected by major increases in their fuel and energy costs, but little is yet known about their possible tax incentives,' says Stolarek. 'Businesses are urged to let their feelings be known to government.'
Tax practitioners say that key issues for businesses outside the big 1000 emitters include the desirability of tax incentives, such as accelerated depreciation, for introducing emissions-reduction processes and technology.
And again, there are such flow-on factors from emissions trading to consider as GST on permits and the possible impact of state tax policies, which are discussed in this feature.
3. Households and individuals
Relief is expected through the tax system, as well as social benefits to low-income earners, to compensate for the increased cost of affected goods and services once emissions trading is introduced.
PwC's Bryant says there is an expectation that personal tax rates will be reduced to help compensate individuals for the higher prices flowing from emissions trading: 'We think the best way [to assist] is through the tax system.'
4. GST on permits
The government's preferred position at this stage, as expressed in the green paper, is that emissions permits would be subject to GST under Australia's existing GST regime.
Yet some tax practitioners say that GST is one of the tax issues that requires closer analysis and clarification by the government. And this point will definitely be made in submissions by business in response to the green paper.
The application of the GST to emissions trading could be extremely complex. PwC's GST partners, for instance, have identified 18 different types of transactions that could occur involving the trading of permits, including those with derivatives, says Bryant.
In practice, Bryant says that much of the dealings involving emission permits could end up with a zero GST rate because the transactions would be business-to-business that do not flow through to consumers. 'So if the government made the GST rate zero, there would be little loss of revenue,' she says.
New Zealand, for example, has introduced preliminary legislation for a zero rate on emission permits.
The application of GST in its present form to emissions permits would increase business compliance costs as businesses collect the levy and then claim input credits in their business activity statements, KPMG's Henderson points out.
And Ernst & Young's Stolarek believes that without clarification on the GST, there is the potential for technical interpretations that could distort the emissions trading scheme.
'For example,' says Stolarek, 'if the Australian Taxation Office's technical interpretation was that permits were derivatives, which might be subject to GST input tax treatment, there might be a denial of input tax credits for both vendors and purchasers.'
5. State taxes
The government's green paper did not discuss the possible implications of state and territory taxes for the emissions trading scheme.
As KMPG's Henderson emphasises, this will be a matter for negotiation between the Commonwealth and the states and territories.
Some 80 per cent of businesses responding to a Deloitte survey conducted in May and June were concerned that state taxes could drive up transaction costs and create uncertainty if applied to emissions permits.
The Deloitte survey asked a broad cross-section of businesses about their concerns and favoured positions in relation to emissions trading and other aspects of the government's Pollution reduction scheme.
Chris Leach, a tax partner with Deloitte, says that the states should not impose additional taxes that would influence the cost of permits and how permits are traded.
6. Transfer pricing
The green paper discusses the trading of permits internationally. However, it does not specifically mention transfer pricing.
PwC's Bryant believes that transfer-pricing treatment of permits could be an important issue for global organisations trading with related entities.
Most of the respondents to the Deloitte report agreed that transfer pricing rules for the international trading in emissions permits would be of considerable concern.
7. Emissions-cutting activities
KPMG's Henderson believes the provision of such measures as accelerated depreciation for emission-abatement activities can 'kick-start the way that companies do things in an environmentally friendly way'. (The green paper did not cover tax relief for businesses that introduce emission-cutting activities.)
Gavan Ord, a business policy adviser with CPA Australia, says CPA Australia advocates that the government should make tax and other fiscal incentives available to all businesses, no matter their size, that will encourage their introduction of low-emissions technology.
Ord says possible tax incentives, that would complement emissions trading and other government carbon-reduction policies as well as drive behavioural change, may include:
higher research and development tax concessions of 200 per cent to develop new low-emissions technology (see point eight)
upfront investment allowances of 20 per cent for capital expenditure on low-emissions technology
accelerated depreciation for capital expenditure to replace or upgrade existing plant and equipment with lower-emissions technology.
Ord says such measures would provide additional incentives for businesses not directly involved in emissions trading to change their approaches. This would contribute to Australia reducing its emissions and avoid excessive reliance being placed on the ETS to achieve Australia's emissions reduction targets.
8. Research and development
The green paper does not specifically mention tax incentives for innovation and R&D into low-emissions technologies.
PwC's Bryant says the government is proposing to fund R&D by providing grants for specific projects.
'Some of the problems with the grants,' says Bryant, 'is that they often have a lot of conditions attached and are given to emerging entities with no income or to small entities with little income.
'And the larger players that really have the funding to take some of these ideas forward, don't necessarily get access to some of those grants. So the government might be better placed by providing concessions through the tax system.'
9. Fuel excise
The government plans to cut fuel excise on a cent-by-cent basis to offset the initial price increase caused by emissions trading and to review the measure for adequacy after three years.
It plans to provide businesses in agriculture and fishing with an equivalent tax rebate for three years. And it will cut fuel taxes for heavy road users, to be reviewed after a year.
Deloitte's Leach says the application of the fuel excise to alternative fuels such as 100 per cent ethanol and bio-diesel is yet to be addressed as part of the Carbon pollution reduction scheme. 'I think that is a way that the government can really change behaviour,' he says.
Leach says the non-application of the excise to alternative fuels, which are primarily low sources of carbon emissions, would encourage their use.
10. Green cars
Community and business support for the government to provide tax relief for buyers of fuel-efficient or 'green' cars is likely to be strong if the Deloitte business survey is a guide. Most respondents 'strongly agree' with a stamp duty concession for such cars.
The 2008 budget included the establishment of the Green car innovation fund to assist Australian-based car makers to develop and manufacture low-emission vehicles.
'Coupled with the government's green car fund, stamp duty concessions could drive the behaviour of corporate car fleet managers,' Leach says.
Some tax practitioners expect that the review of Australia's tax system chaired by Ken Henry may include tax relief for low-emission cars. But for now, it's a case of watching this space.
