Contributed by Roelof Van Der Merwe, National Tax Director, Nexia Australia
Following on from the government’s 2015 Agricultural Competitiveness White Paper1, the government recently released a Bill2 that will make farm management deposit (FMD) schemes more attractive for farmers3 to invest in.
In short, from 1 July 2016:
- 1. there will be a new cap of $800,000 that can be held in FMDs by farmers (the cap is currently $400,000)
- 2. some drought affected farmers may access their funds held in FMDs at an earlier time without incurring penalties, and
- 3. some amounts held in FMDs may offset a loan or other debt — resulting in lower interest being charged on the original loan (and if the other loan does not relate to primary production activities there can be administrative penalties).
This article will explore what these proposals practically mean for farmers and what benefits they may hold for their primary production business/farming activities.
1 Increase in FMD cap to $800,000 (currently $400,000)
By investing in FMDs, individuals carrying on a farming business (including as a partner in partnership or as a beneficiary of a trust) are provided with a tax holiday.
In broad terms, this means that if an FMD investment is held for more than a year, farmers may claim deductions for amounts deposited in the year the deposits are made and only include the amount of deductions claimed in their assessable income in the year they withdraw these deposits.
Example — special tax treatment for FMDs
A farmer invests $100k in FMD in a good cashflow year and claims the amount as a deduction in the year of making the deposits. When the farmer subsequently withdraws $100k (previously claimed as a deduction) from the FMD during a reduced cashflow year, the farmer is required to include the amount as assessable income in the year of withdrawal.
By increasing the maximum amount that may be invested in FMDs from $400,000 to $800,000, there is now more potential for farmers to improve their cashflow (ie because they can claim an upfront deduction and recoupment of the tax deduction only occurs in a later year).
2 Early release for drought affected farmers
Broadly, this measure allows farmers to deposit funds (up to the $800k cap) in FMDs with confidence knowing that if they experience severe drought and need to withdraw monies so deposited within 12 months, they can safely do so without losing access to the previously claimed tax deduction.
Currently, when farmers withdraw their deposits from FMDs within 12 months of making such a deposit, they will:
- • have to amend their previous year’s income tax return to remove the deduction claimed for the amount originally deposited in the FMD, but
- • still include the amount of original deposit in their assessable income in the year of withdrawal.
Example — current position on early withdrawals
A farmer made deposits of $100k in FMD on 10 May 2015 and claimed the deduction on 30 June 2015 (ie in the year of making the deposits). When the farmer withdraws the deposit on 10 April 2016 (ie within 12 months of making the deposit), he is required to amend the 2015 tax return to remove the deduction claimed in 2015 and include the amount of the original deposit as assessable income in 2016 (ie the year of withdrawal).
However, from 1 July 2016, it is proposed that some “drought-prone”5 farmers experiencing severe drought conditions (defined below) would be able to make such withdrawals within 12 months of making the deposit without any adverse tax consequences.
This means that for such post-1 July 2016 contributions, they will:
- • still be entitled to the original deduction claimed on contribution to the FMD (and would therefore not need to amend their previous year’s tax return to deny such a deduction), and
- • still include the amount of the original deposit in their assessable income in the year of the withdrawal.
Example — proposed position on early withdrawals
A farmer makes deposits of $100k in FMD on 10 May 2017 and claims the deduction on 30 June 2017 (ie in the year of making the deposits). When the farmer withdraws the deposit on 10 April 2018 (ie within 12 months of making the deposit), he is still entitled to the original deduction claimed and therefore is not required to amend his 2017 tax return. The farmer, however, needs to include the amount of the original deposit as assessable income in 2018 (ie the year of withdrawal).
What are severe drought conditions?
Farmers will have severe drought conditions if they can demonstrate that at least a part of the land (on which “drought-prone” farming activities have been carried on) has experienced a rainfall deficiency for at least six consecutive months (ie rainfall ≤ 5% of the average rainfall for that six-month period based on Bureau of Meteorology (BOM) statistics) or any other conditions that future regulations may prescribe. This six-month requirement necessarily means that the amount withdrawn cannot be withdrawn within six months of depositing it as a FMD.
It is refreshing that a farmer may self-assess (based on publicly available BOM information) whether it meets the conditions for early release (ie whether there is severe drought conditions) — there is no need to apply to any government agency to exercise discretion before funds can be released early6.
This “severe drought” concession will not be available for amounts deposited and withdrawn in the same income year. If this were to happen, the net tax effect would be zero — ie the amount of the withdrawal will be assessable in the same year that the amount of the contribution would be allowed as a deduction.
3 FMD funds can be used as an offset account
This new concession only applies in relation to loans held by an individual either as sole trader or as partner in a partnership (ie not for loans held through trusts carrying on a farming business).
This concession allows funds held in FMDs to be used as an offset account (to set off against other interest payable on other farming loans the FMD holder may have). Such other farming loans can include secured or unsecured loans, loans with redraw facilities, bank overdrafts and lines of credit in respect of a primary production business carried on either directly as a sole trader or through a partnership7 (not for loans through a trust).
Note, however, that if funds in the FMDs are used to offset the amount of interest payable on non-primary production/farming loans, an administrative penalty of 200% of the amount by which the interest has been reduced, will apply. However, the Commissioner has a discretion to remit this penalty.
It is therefore advisable to keep separate loan accounts to distinguish each type of loan (ie those loans that are for primary production/farming purposes and those that are not).
This article was published in CCH Tax Week. CCH iKnow has information relating to tax and superannuation.