Recent amendments to tax laws may have provided some clarity for primary producers regarding carbon credits.
Andrew Jones, a Brisbane-based corporate tax specialist with advisory firm BDO, said the recent amendments to the tax system had provide much-needed clarity by categorising income from Australian Carbon Credit Units as primary production income for the purposes of income tax averaging and the Farm Management Deposit scheme.
"Eligible ACCUs will only be taxed at the point of sale - a contrast from the previous periodic taxation of other ACCUs under the rolling balance mechanism," Mr Jones said.
"Despite these advantageous changes, it is important to note that the new rules are not without complexities."
Speaking at the recent Nature-Based Solutions Conference in Brisbane, Mr Jones said it was important to recognise that the primary production income definition applies to ACCUs only issued on or after July 1, 2022.
"When first announced by former Agriculture Minister David Littleproud, the amendments were expected to take effect from July 1, 2022," Mr Jones said.
"Many within the industry interpreted this to mean that from July 1, 2022, income from the sale of ACCUs would be classified as primary production income.
"In reality, the amendments indicate that the changes only apply to the sale of ACCUs issued on or after July 1, 2022.
In reality, the amendments indicate that the changes only apply to the sale of ACCUs issued on or after July 1, 2022.
- Andrew Jones, BDO
ACCUs issued before July 1, 2022 remained non-primary production income, and holding the ACCUs longer term required the rolling balance mechanism to be applied, he said.
Mr Jones said it was also important to recognise that not all ACCUs created primary production income.
"For ACCUs to give rise to primary production income, they must meet the tax law definition of a 'primary producer registered emissions unit'," Mr Jones said.
There are several parts to this definition, but the key points are:
- The ACCU must be newly issued and held by an individual or carbon service provider.
- The registered carbon project giving rise to the ACCU must be on land which is at all times used or connected with a primary production business (as defined for tax purposes).
- The primary production business must be carried on by an individual (alone or in partnership), or by a trust that the individual benefits from.
Mr Jones said there were several important points to note including that if a company carried on a primary production business on land connected with the carbon project, ACCUs will be ineligible - even if the individual ACCU holder controls the company," he said
"ACCUs purchased on the secondary market by a primary producer are also ineligible.
"In addition, if a primary production business is not carried on for each year of the permanence period of the carbon project, ACCUs will be ineligible."
Mr Jones said the law was unclear about how to establish whether carbon project land was 'connected with' primary production land although physical proximity was expected to be important.
Mr Jones said as examples:
- ACCUs obtained through an Emissions Reduction Fund method that excluded other land use for a carbon project, on a carbon project area physically distant from the primary production land, may not meet the eligibility criteria.
- ACCUs issued under ERF methods that permitted primary production activity such as grazing on the same land, or an exclusive land use carbon area next door to the primary production land, are likely to be eligible.
"It is crucial to understand that the tax law definition of primary production business is relatively narrow and doesn't always extend to other on-farm activities," Mr Jones said.
"For example, farm-based hospitality is not a primary production business, and does not give rise to primary production income."
Carbon service providers
Mr Jones said there were also specific rules applicable to arrangements with carbon service providers that primary producers should be aware of.
Broadly, a carbon service provider is an entity that provides services relating to carbon projects, and includes project developers.
"Under these rules income derived from selling an ACCU issued to and sold by a developer is classified as primary production income when paid to the primary producer.
"The condition is the ACCU must still meet the criteria of an eligible ACCU had it been directly issued to the primary producer.
"This usually holds true for most profit-split arrangements."
Mr Jones said if an ACCU was initially issued to a developer and later transferred to a primary producer, it will be considered an eligible ACCU provided it meets the eligibility requirements it would have had if it were directly issued to the primary producer.
This typically applies to ACCU share arrangements, he said.
"These concessions do not apply in cases where the payment from the carbon service provider to the individual is considered payment under a lease," Mr Jones said.
Mr Jones said navigating the intricacies of ACCU income within partnerships and trusts could be complex would require professional advice to ensure compliance.
Rolling balance still applies
Mr Jones said the rolling balance continues to apply with the exception of individual primary producers.
"The amendments effectively disable the rolling balance mechanism so that it doesn't apply to 'primary producer registered emissions units'," Mr Jones said.
"Since an ACCU only falls into this definition if it is held by an individual, the rolling balance mechanism continues to apply to all other legal entities and structures which hold ACCUs.
"This gives rise to a conundrum when ACCUs are held by trusts or partnerships.
"Technically, these entities must continue to calculate gains and losses annually under the rolling balance mechanism."
He said a distinction arose when rolling balance gains and losses were shared among partners, or rolling balance gains are distributed by a trust.
"In these cases, the amendments do not classify such amounts as primary production income or deductions in the hands of individual partners or beneficiaries," Mr Jones said.
"This is because the rules only pertain to income from the sale of eligible ACCUs."
Mr Jones said if an ACCU did not qualify as a 'primary producer registered emissions unit' (for example, when a company conducts a primary production business adjacent to the carbon project land), the rolling balance mechanism still applies to the ACCU.
"This situation can introduce further complexity when determining the tax implications," he said.
Complexities remain
Mr Jones said while the tax changes had provided clarity, there were still complexities.
"The government's intention in enacting these laws - and others - is to encourage primary producers to engage in carbon sequestration activities," Mr Jones said.
"We believe the amendments are unlikely to persuade an otherwise undecided primary producer to undertake a carbon project.
"The added complexity may complicate financial and structuring decisions, leading to higher costs for farmers - either in advisory fees to ensure compliance, or in potential tax penalties and interest if they get it wrong.
The government's intention in enacting these laws - and others - is to encourage primary producers to engage in carbon sequestration activities.
- Andrew Jones, BDO
"We are particularly concerned by the limited benefit to primary producers operating multiple carbon projects through complex, multi-generational structures."
Mr Jones said these issues, combined with the failure to increase the $250,000 income cap for the availability of tax losses to individuals, suggested that carrying out carbon projects may be of greater benefit when not in the name of an individual primary producer.
However, a decision would require prior consideration of all of the facts, circumstances and projections, he said.
