Focus: Tax loss incentive for nationally significant infrastructure projects
14 August 2013
In brief: After a long period of scoping, consultation and review, concessional treatment for the tax losses of entities undertaking nationally significant infrastructure projects has become law. Under the measure, which was announced in the 2011-12 Federal Budget, eligible losses can be uplifted by the long-term Government bond rate and the loss integrity rules are moderated. Partner Martin Fry (view CV) and Lawyer Timothy Stokes look at how it will work in practice.
- Key aspects of eligibility
- Key aspects of the DIP application process
- Key features of DIP entities
- The loss uplift, COT and SBT
How does it affect you?
- Designated Infrastructure Project Entities (DIP Entities) undertaking part or whole of a Designated Infrastructure Project (DIP) listed on Infrastructure Australia's Infrastructure Priority List (the List) as being at the 'Threshold or 'Ready to Proceed' stage are eligible to uplift tax losses incurred in carrying on the DIP at the 10-year long-term Government bond rate, and are not subject to the Continuity of Ownership Test (COT) or Same Business Test (SBT) for those losses.
- As this measure is intended to stimulate infrastructure spending in the short term, the Infrastructure Coordinator (the Coordinator) is only permitted to 'designate' DIPs up to a global capital expenditure cap of $25 billion (the cap) or, if the cap is not reached, until 30 June 2017. Applications for designation may be lodged any time from 19 August 2013 and will be assessed on a first come, first served basis.
- Importantly, there is no indication that a change of government at the upcoming federal election will impact upon the measure's availability.
- Historically, state governments were most likely to submit projects for inclusion on the List and would seek private sector involvement at a later stage. With the introduction of this measure, it is expected that the private sector will also develop and advance projects for inclusion in the List. In 2013-14, Infrastructure Australia will update the list three times per year, and expects the application process to become highly competitive in light of the cap.
- Currently, the List has $11 billion worth of projects at the 'Ready to Proceed' stage and more than $20 billion worth at the 'Threshold' stage. Projects that are 'Ready to Proceed' include the 'Pacific Highway Corridor Upgrades' project and the 'Victorian National Managed Motorways Monash Freeway' project. Projects at the 'Threshold' level include the 'Melbourne Metro' rail project and the 'F3 Widening' project in Sydney. At this stage, the 'East West Link' project in Melbourne is further down the List, only being identified as having 'Real Potential'.
- In order to be considered a DIP, a project must be a nationally significant project on the List, and be at the 'Threshold' or 'Ready to Proceed' stage. The project must be new and construction must not have commenced.
- The projects must address current or projected infrastructure challenges.
- An entity proposing to carry on a project must apply to the Coordinator to have the project 'designated' as a DIP and must meet the application requirements that the Coordinator outlines. The entity must also notify the Australian Taxation Office (the ATO) of its status as a DIP Entity once DIP status has been granted.
- Both companies and fixed trusts are eligible to become DIP Entities, provided that their only activities relate to carrying on a single DIP. An entity will continue to be a DIP Entity until it no longer carries on a DIP.
- Companies that are DIP Entities will not be required to satisfy either the COT or SBT, and will only be required to apply modified versions of those tests when their DIP activities cease. Similar modifications exist in relation to deducting bad debts. Fixed trusts that are DIP Entities are eligible for appropriate equivalent treatment.
Submissions to Infrastructure Australia for the inclusion of a project on the List are required to address Infrastructure Australia's Reform and Investment Framework by:
defining the goals of the project;
outlining the strategic alignment of the project with both state-specific plans and Infrastructure Australia's strategic priorities;
providing thorough problem and options analyses; and
outlining the economic merit of the project and deliverability timeframes.
An application for DIP status must be made to the Coordinator and conform with the Infrastructure Project Designation Rules (the Rules). The Rules set out a number of criteria that must be satisfied in the application, namely:
it must be made in writing (through the online Infrastructure Australia portal);
it needs to identify the specific project being proposed for designation and its status on the List;
it needs to be accompanied by an independently verified estimate of the project's capital expenditure; and
the application fee of $20,000 must be enclosed.
Subject to satisfying the application requirements, the Coordinator can 'provisionally designate' the project if:
at least part of the infrastructure to be provided is privately owned or financed;
the infrastructure will be common use, and will not be provided for the benefit of one or more specific users;
construction activities have not commenced; and
the cap has not been reached.
The Rules also empower the Coordinator to impose additional conditions on the project that must be satisfied before DIP status will be granted, which may include adherence to specific timeframes or the implementation of appropriate access regimes. Provisional designation is designed to give confidence to lenders and investors that DIP status will likely be achieved and, consequently, the project will proceed.
In order for a project to be finally 'designated', and therefore achieve DIP status, it must:
be provisionally designated;
not have commenced construction;
meet any requirements the Coordinator has specified under the Rules;
be classified as 'Ready to Proceed' on the List; and
be at financial close (or imminent financial close).
A DIP Entity is a company or fixed trust whose only activity is (and has always been) to carry on part or whole of a DIP. Activities incidental to the DIP, or activities supplementing the operation of the DIP (such as the collection of tolls), are also allowed. The tax loss benefits of DIP Entity status can operate in a backward-looking fashion. That is, an entity is also able to be a DIP Entity if it carries on a DIP at a later time, allowing access to the enhanced loss measures in relation to expenditure incurred before construction commences or during the application process.
Partners in a partnership, as long as they are companies or fixed trusts, can be DIP Entities. The head company of a consolidated group is also permitted to be a DIP, but only in circumstances where all subsidiary members have only ever carried on activities related to the same DIP. Where a head company is not a DIP Entity or carries on a different DIP, an entity joining a consolidated group will lose its DIP Entity status. Concessional loss transfer measures are provided in these circumstances.
Once an entity begins to carry on a DIP, it is required to notify the ATO that it is a DIP Entity. Once this notification has been given, the DIP Entity will be eligible to access the loss uplift, and the COT and SBT will no longer apply. An entity will cease to be a DIP Entity when it stops carrying on the DIP or begins to carry on other, unrelated, activities.
A DIP Entity that is a company can uplift its unutilised taxation losses by the prevailing 10-year long-term Government bond rate. This uplift occurs before such losses are required to be deducted against any current year income. Further, while the entity remains a DIP Entity, the COT and SBT loss integrity measures will not apply, providing considerable flexibility to both investors and financiers. However, it is important to note that capital losses will continue to receive their ordinary treatment.
When the company stops being a DIP Entity, losses will no longer be able to be uplifted, and the COT and SBT tests will begin to apply. The measure provides that the relevant start time for each test is modified to begin when DIP Entity status was lost and not, as in the ordinary course, when the losses accrued. If this happens part-way through an income year, the company will be entitled to a partial uplift.
A similar treatment is afforded to the losses of a fixed trust DIP Entity.
The COT and SBT modifications will also apply to the bad debt deduction rules.
Accordingly, it is critically important that DIP Entities stay aware of whether they remain eligible DIP Entities, and if their status changes, actively manage their compliance with the COT or SBT. Otherwise, the value of the uplifted losses and bad debts may be forgone, causing significant financial detriment to financiers and investors. Further, if access to the uplifted losses was a condition of financing a DIP, this could cause the DIP Entity borrower to breach its financing covenants, causing significant and ongoing liquidity difficulties.
- Martin FryPartner, Practice Leader, Tax,
Ph: +61 3 9613 8610
- Emma WarrenPractice Group Leader, Projects & Development,
Ph: +61 3 9613 8856
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