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Annex C Measurement of the income tax parameter

Australian System of National Accounts: Concepts, Sources and Methods
Reference period
2020-21 financial year

19C.1    The income tax parameter,\(T_{ijt}\) allows for the variation of income tax allowances according to different industries, asset types, and variations in allowances over time. Changes in corporate profit taxes over time are also allowed for. Corporate taxes aside, these provisions increase the after-tax returns on investment and lower the rental price of capital. For each industry \(i\), and asset type \(j\), \(T_{ijt}\) is expressed as:

    \(\large {T_{ijt}} = \frac{{1 - {u_t}{z_{ijt}} - {u_t}{a_{ijt}}}}{{1 - {u_t}}}\)

where

    \(u_t\) = the corporate profit tax rate;

    \(Z_{ijt}\) = the present discounted value of one dollar of depreciation allowances; and

    \(a_{ijt}\) = the additional allowance rate.

19C.2    The tax parameter reflects the differing tax circumstances that owners of capital face. The method adopted by ABS follows Jorgenson\(¹⁰²\) and Hall and Jorgenson¹⁰³ ¹⁰⁴ and reflects changes to:

  • tax concessions;
  • write off periods (i.e. tax lives);
  • deductions allowable;
  • allowable capital expenditure;
  • special allowances; and
  • amortisation of capital.

19C.3    For example, allowance is made for the differing depreciation and additional allowances available to specific industries and asset types over time.  These allowances tended to be more generous in the Agriculture, forestry and fishing, Mining, and Manufacturing industries, especially for certain types of equipment.  In addition, the Australian Taxation Office (ATO) allowed for faster depreciation rates over time through shorter effective tax lives. Since 1985, various research and development (R&D) tax concessions have been introduced to encourage increased investment in R&D by Australian companies. These concessions have had the effect of reducing rental prices on R&D considerably.

19C.4    The Corporate Profit Tax Rates (\(u\)) are obtained from the ATO website.

Depreciation allowances

19C.5    The depreciation allowance (\(z\)) is the present discounted value (PDV) of the stream of deductions multiplied by the marginal tax rate applicable in that year. Asset lives and a nominal discount rate are used to determine the present discounted value of depreciation allowances. Prior to 1980, the average asset lives used to calculate capital stock for each asset type are used. After 1980, the asset life consistent with the shortest life within broad asset life bands specified by the ATO is used. Broad banding reduces the effective life of the asset. The nominal discount rate is based on the business overdraft rate published in the Reserve Bank Bulletin.  It assumes that the business overdraft rate applies to all borrowers for investment in equipment or structures and contains a risk premium (over and above government bonds). 

19C.6    Specific rulings on eligible depreciation allowances are obtained from the Master Tax Guides (MTG), ATO rulings published online, and Commonwealth Budget Papers. Of the two depreciation schedules permitted, the diminishing value method has been chosen. Prior to 10 May 2006, it allowed software and machinery and equipment assets to be geometrically depreciated at 150 per cent of the straight-line rate (the other schedule permitted). From 10 May 2006, the government introduced a 200 per cent diminishing balance rate for eligible new plant and equipment assets.

19C.7    From 1980, broad banded depreciation rates were introduced, allowing assets with effective lives over a particular band of years to depreciate at a certain rate. In 1996, for example, assets with a life of 0-3 years could be depreciated immediately, and assets with a life of 3 to 5 years could be depreciated at a prime cost rate of 40 per cent of its purchase price.

19C.8    In addition to broad banding, the Commonwealth Government allowed a loading factor of between 18 per cent and 20 per cent from 1990, depreciating some assets more quickly. Most equipment except motor vehicles was permitted to use loading factors.

19C.9    Double depreciation allowances were permitted for most assets for the period in 1974-76. Between 1 July 1974 and 30 June 1976, companies were allowed to depreciate new investment excluding motor vehicles at twice the stated rates. Once purchased, the asset continued to be depreciated at these accelerated rates until completely depreciated.  We treat this by doubling the loading factor which has the effect of doubling the depreciation rate.

19C.10    In 1980, the Commonwealth Government permitted a separate allowance for buildings. Depending on the year, a straight-line allowance of 2.5 per cent or 4 per cent was permitted. This allowance is treated in the same way as depreciation allowance in the tax parameter.

19C.11    On 1 July 2001, the government introduced the 'uniform capital allowances regime'. This regime replaced the special capital allowance provisions for the Mining industry. The regime applied to all depreciable assets except where specific provisions apply to R&D activities, investments in Australian films, or cars.

19C.12    In 2002, statutory effective life caps were introduced, allowing an accelerated depreciation for certain types of equipment. Specifically, statutory life caps halved the effective tax lives of aircraft (to 10 years) and buses and trucks (larger than 3.5 tonnes) to 7.5 years.

Computer software

19C.13    Depreciation rates are applied to purchased (packaged) software, customised, and in-house software combined. MTG defines in-house software as: computer software, or a right to use such software, that is acquired, developed or commissioned, and that is mainly for the taxpayer to use in performing the functions for which the software was developed (i.e. not for resale).  From May 1998, acquiring, developing or commissioning software is depreciable at 40 per cent per annum, so that the asset life is 2.5 years.

Non-dwelling construction

19C.14    The effective lives of 'industrial' buildings and 'non-industrial' buildings are 25 years and 40 years respectively.

Non-depreciable assets

19C.15    For land and inventories, the effective life does not apply to these capital assets as they are not subjected to depreciation resulting from production. 

Additional allowance rate

19C.16    The additional allowance rate (\(a\)) is an immediate write-off which results in tax savings (i.e. discounting is not required). The value of an allowance is the tax savings which is the product of the tax rate and the rate of the allowance. For example, if the allowance rate is 50 per cent and the profit tax rate is 30 per cent, then the company effectively saves 15 per cent of the purchase price of the asset in tax savings (\(30\%×50\% =u×a\)). Most equipment types have attracted an allowance of some kind.

19C.17    There are general allowances across all industries and special allowances. Special allowances vary widely according to asset type and time period. In 1996, for example, purchasers of machinery and equipment (other than motor vehicles) were permitted to deduct an additional ten per cent in the purchase year.

19C.18    Pro rata adjustments are made to align the dates of the tax law with the financial year, assuming that investment occurred evenly over the tax year. This leads to determining pro rata depreciation rates based on the portion of the year covered. 

19C.19    Some allowances may have not been taken into consideration because of the assets eligible may be at a finer detail than assets classes to which tax parameters can be assigned (i.e. the asset classification in the Perpetual Inventory Model), or because further research was needed. The ABS welcomes comments which may assist in improving the accuracy and fitness-for-purpose of tax parameters.

Film tax concessions

19C.20    According to the MTG 2011, three types of film concession were available in 2010-11. Since a film's eligibility for tax concessions is limited to one of the concession types, the 'additional allowance rate' for film has been set at 15 per cent, which is the lowest available concession rate.

Research and development

19C.21    Since 1985, tax incentives have been available to encourage increased investment in research and development (R&D) by Australian companies. Up until 2010-11, the 'R&D Tax Concession' program was in place. The most recent elements of the R&D Tax Concession included:

  • An enhanced rate of tax deduction at 125 per cent of eligible expenditure incurred on Australian R&D activities of at least $20,000. Eligible R&D expenditures included salaries and wages to company employees associated with the R&D activities, along with expenditure on materials used and an allowance for the decline in value of capital equipment used in R&D.
  • A premium 175 per cent rate of tax deduction applied to the amount of R&D expenditure that exceeds a given company's average expenditure over the previous 3 years.

19C.22    This tax concession scheme had been treated as a general allowance for all industries. Between 1985 and 2011, the allowance in (a) ranged from 125 to 150 per cent.

19C.23    From July 1, 2011, the 'R&D Tax Concession' was replaced by the 'R&D Tax Incentive'. The R&D Tax Incentive aims to encourage companies to engage in R&D activities where the knowledge gained is likely to benefit the wider Australian economy. The two key components of the R&D tax incentive are:

  • A 45 per cent refundable tax offset (equivalent to a 150 per cent deduction at a 30 per cent company income tax rate) on Australian R&D activities of at least $20,000 for companies with an aggregated turnover of less than $20 million per annum. Companies can receive a cash refund for income years where a tax loss is recorded.
  • A non-refundable 40 per cent tax offset (equivalent to a 133 per cent deduction at a 30 per cent company income tax rate) to all other companies, allowing for unused offset amounts to be carried forward for use in future income years.

19C.24    Effectively, the treatment of the tax parameter is the same for both schemes. The ABS estimates that most R&D spending will fall into (d), attracting the 40 per cent tax offset.

Endnotes

  1. Jorgenson, D. W. (1963). Capital theory and investment behavior. The American Economic Review, 53(2), 247-259.

  2. Hall, R. E., & Jorgenson, D. W. (1967). Tax policy and investment behavior. The American Economic Review, 57(3), 391-414.

  3. Jorgenson, D., Hall, R. E. (1971). Application of the theory of optimum capital accumulation. In G. Fromm (Ed.), Tax incentives and capital spending (pp. 9-60). Washington: The Brookings Institution