Historically, the costs of an investment in a registered agricultural managed investment scheme were deductible up front.  However, in October 2007, the ATO issued a tax ruling (TR 2007/08) which confirmed that investments in registered agricultural managed investment schemes which began on or after 1 July 2008 would be considered a capital cost of the investment and would not be tax deductible.  This was contrary to the general position prior to 1 July 2008 where investors were usually entitled to a tax deduction, as these costs were considered outgoings in operating a business.  As a result of amendments to the Income Tax Assessment Act 1997 (Cth), this tax ruling did not effect registered forestry managed investment schemes in which investors are entitled to an up front deduction for their investment if certain conditions are met. 

As a result of TR 2007/08, the industry body, Agricultural Investments Managers Australia, and the Commissioner of Taxation jointly agreed to hold a test case in order to obtain some clarity as to the deductibility of investments in registered non-forestry agricultural managed investment schemes.  The test case, Hance v Commissioner of Taxation, was based on two private rulings which related to a proposed almond managed investment scheme.

In a unanimous decision of the Federal Court, it was held that the initial and ongoing contributions to the proposed almond managed investment scheme would be incurred as operating expenses in carrying on each investor’s business and as such they would be tax deductible.  Pivotal to this decision was a determination as to whether these contributions were outgoings incurred by each individual investor in carrying on a business or whether they were instead more appropriately characterised as capital contributions made to acquire an income producing asset, being an interest in the scheme and rights to share the net proceeds from the sale of pooled almonds (as was the Commissioner’s view).  The Federal Court held that on the facts of this case, each individual investor was in fact carrying on a business and accordingly expenses incurred in operating the business would be tax deductible.

Whilst each investment in a registered agricultural managed investment scheme will need to be considered on its own facts, this test case is important as it has broadened the scope for investors to deduct fees payable under registered agricultural managed investment schemes.  It also indicates that the ATO is likely to regard an investment made in a registered agricultural managed investment scheme which is broadly similar to the test case, as tax deductible.

Schemes which feature non-recourse loans or indemnity arrangements (which were not present in the test case) that may reduce the exposure of scheme participants to commercial risk may still attract the Commissioner’s close attention.

The risks are not all confined to differences of opinion with the Taxation Commissioner.  In recent litigation, promoters of tax effective schemes (or their associates) have sued participants seeking to enforce terms of the arrangements that participants most probably regarded as window dressing, if they understood them at all.

A recent High Court decision held that non-recourse/indemnity arrangements in an agricultural scheme could not be enforced by the participants because they had not strictly observed the terms, which required loan payments to be made on time.  The worst result in such a scenario may be an agricultural scheme that fails commercially, loans from the promoters that must be repaid and the prospect that the Tax Commissioner doesn’t allow up front deductions in any case.

The Federal Government is reviewing the economic impact of non-forestry managed investment schemes (forestry schemes now have separate tax legislation), including whether any adverse outcomes from these arrangements (such as the diversion of resources from other farmers) arise because of perceived unfair tax advantages.

It maybe that the current economic climate and the outcome of the Government review will impact on how these arrangements operate in the future, notwithstanding the favourable Federal Court decision.

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