We explain the tax implications and complications for arrangements that farmers and landowners should gain an understanding of before undertaking any project.
Farmers and landowners are presented with many opportunities to make money by providing what may be termed 'ecological services'. Opportunities can include:
- Changing vegetation management or farming practices to generate carbon credits
- Changing farming practices to generate reef credits
- Formally protecting land areas of conservation value to generate biodiversity offsets.
This evolving space seems like a boon for the agricultural sector looking to earn some additional income.
Credits and offsets generated from projects can be sold to governments, and private businesses, through voluntary markets and via commercial agreements at the going market rates.
However, there are tax implications and complications for these arrangements that farmers and landowners should gain an understanding of before undertaking any project.
When is income considered Non-Primary Production income?
Farmers who utilise Farm Management Deposits (FMDs) and primary production tax averaging, need to be aware that income from ecological services may not be considered primary production income.
Broadly, FMDs and tax averaging only apply to primary production income. Not only is non-primary production income ineligible for these arrangements, too much non-primary income can also impact their availability.
Arrangements or activities that can create non-primary production income include:
- Selling of Australian Carbon Credit Units (ACCUs)
- Selling biodiversity credits
- Managing land for conservation or biodiversity purposes to comply with covenants.
While the former Federal Government announced changes to the tax law to make income earned by farmers from the above arrangements recognised as primary production income, no details have been published yet.
Consequently, interested farmers should seek tax advice early to understand the impact that these additional income streams might have on their personal tax affairs.
Are farmers or landowners eligible for Capital Gains Tax?
ACCUs are not eligible for Capital Gains Tax (CGT) treatment as the tax law specifically treats these assets on ‘revenue account.’ This means that individuals cannot apply the 50 per cent general discount in relation to ACCUs held for more than 12 months, nor can the small business CGT concessions apply when disposing of ACCUs.
However, other types of credits and offsets may be eligible for CGT treatment. It all depends on whether the farmer or landowner is carrying on a business, or has a profit-making purpose, in relation to earning the credit or offset.
Whether or not this is the case depends on a range of factors, including the intention of the parties, the terms of the arrangement, and the intensity of activity that will be required.
Interested farmers or landowners should seek advice from their accountant or tax adviser if CGT treatment is important.
In addition to the CGT treatment of the credits or offsets, it is important that specific project areas can constitute separate assets for tax purposes and may be considered ’Active assets’ for the purposes of the CGT concessions.
Farmers and landowners should consider the legal entity in which they undertake an ecological services project.
As noted above, income from projects can create adverse consequences for individuals using FMDs and primary production tax averaging. In addition, if an individual farmer’s total income exceeds $250,000 in any year, it can mean that primary production tax losses are unavailable.
It is generally possible to utilise a company for the purposes of undertaking most of these projects - the notable exception being covenants over land which require that the landowner enters into the arrangement.
Importantly, proper documentation should be prepared if the project is undertaken by a legal entity that is different from the landowner.
A final word on structuring relates to land tax. Depending on the State or Territory in which ecological projects are being delivered, activities could adversely impact land tax exemptions for primary production land. Again, proper advice should be sought early, and any land reconfigurations completed before a project commences.
There are significant complexities facing prospective ecological service providers. It is important that farmers and landowners take advice on all aspects of these projects, including legal, financial, and tax. Arrangements can be difficult and costly to change once they are set up.
If this article raised any questions, please contact a BDO adviser.