Taxation Considerations for a Carbon Farming Project

A few months ago, we were fortunate to have Rohan Dunsdon join us for our Q&A Webinar. As a Partner with Bentleys Australia specialising in agribusiness and horticulture, he brought a wealth of experience to our conversation on taxation considerations for a carbon farming project. 

If you missed the webinar, you can watch a full replay on our YouTube channel. There’s a lot to wrap your head around, and it’s a tricky topic. If you feel like you need advice specific to your project, reach out to Rohan and his team. To get started, here’s a summary of what to keep in mind when structuring and planning your carbon farming project from a tax perspective. 

Let’s dive in. 

Structuring a Project:

How you structure a carbon project from the onset will have the largest implications on how it is taxed. You want to be sure that when you are setting up a project, it is set up in the most appropriate structure for what you are trying to achieve. The single biggest thing to consider is who is listed as the project proponent. The project proponent is the person or entity that is:

1. Legally responsible for the project 
2. Tasked with carrying out the project
3. Granted Australian carbon credit units (ACCUs) in their name for meeting the obligations set out in the project plan

A common misconception is that the landowner must be the proponent for a project. This is not correct. The proponent can be any one individual or entity, so long as they have the legal right to carry out the project. This could be a person, trust, partnership or company, depending on what makes sense for your farming context. Given the challenging nature of making changes once a project is registered, it is crucial to carefully consider all aspects beforehand, prior to project registration. This means getting acquainted with a critical piece of legislation called the Carbon Credits (Carbon Farming Initiative) Act 2011. Familiarise yourself with the core concepts and seek specialist advice as it relates to your project. This could save you a lot of money, not to mention a lot of headaches further down the track. 

The gist of why structuring is important? It will affect:

1. Income Tax Impacts. An individual may be taxed at 0-45% whereas a business may be taxed at 25-30%
2. Asset Protection Impacts
3. Future Succession Planning & Exit Event Impacts

Taxation Mechanics:

First off, understanding when your project will be assessed for tax purposes on the carbon income is a key aspect to wrap your head around. Why? Because then you can make strategic adjustments to how income is claimed and deductions are realised. Importantly, the role and contract you might have with a Carbon Service Provider (or Carbon Developer) can have a significant bearing on taxation mechanics as well if you are an eligible “primary producer”. 

For non-primary producers, the income derived from ACCUs is treated more like that of stocks. 

For primary producers, there is more flexibility with how income is treated. This also means it’s a little bit more complicated. Let’s look at a piece of the Income Tax Assessment Act 1997 under Division 420 to get more clarity. This legislation deals with the laws that apply to acquiring, holding, and disposing of registered emissions units. 

What division 420 legislation lays out can be summarised as: 

• The taxpayer can deduct expenditures it incurs in becoming a holder of an ACCU as well as expenses for ceasing to hold an ACCU
• The taxpayer’s assessable income in the income year in which it ceases to hold an ACCU includes any amount the taxpayer is entitled to receive because it ceases to hold the ACCU
• At year’s end, the taxpayer must compare their opening ACCU value against their closing ACCU value and to the extent there is a difference, any excess at the end of the year will be assessable to the taxpayer, and any deficiency will be deductible (this is called the “Rolling Balance Mechanism”). For reference, the cost base of the ACCU is the spot price on the day that it is issued
• Valuation methods can either be FIFO cost method, actual cost method or market value method.

Recent changes to legislation in July 2023 have changed how income is treated for primary producers, which has allowed access to certain concessional tax treatments. To reiterate, these are only for areas where a carbon project is registered and carrying out a primary production business in that same area. You cannot have two separate parcels of land, one where a carbon project is taking place and another where a primary production business is being conducted to receive these concessional tax treatments. These changes apply to ACCUs issued after July 1, 2023.

They allow access to:

• Farm Management Deposit (FMD) scheme – to offset income
• Income Averaging Rules – to smooth the income associated with the sale of ACCUs

Both help primary producers realise tax savings by spreading ACCU income across a time period where they can offset spikes and troughs in income. 

Expenses:

Like income, expenses associated with a carbon farming project are flexible, and therefore deductible to the extent that they are associated with primary production businesses. For example, let’s look at creating and maintaining firebreaks. Costs incurred purely to protect an environmental planting project that does not have primary production activities taking place in the same area will not be an eligible deduction. For costs that are tied to land that has primary production activities and carbon farming projects, most will be tax deductible. Carbon farming projects must be associated with a primary production business for these sorts of tax arrangements to be accessed.

Expenditures principally and primarily for that primary business can be written off. The cost of generating the ACCUs are only a tax deduction, not part of the value of the ACCU itself. 

It is important to note that even if there have been significant capital expenditures undertaken to meet and maintain eligibility requirements, these costs will not be treated the same way as other expenses as a primary producer. Historically, primary producers have been able to claim accelerated capital deductions for things like fencing, water facilities and land care. For primary producers that are used to these expenses becoming an (almost) immediate write off, this isn’t the case.

Other Financial Considerations to Weigh Up:

Before we wrap up this article, there are a few things that Rohan recommends reviewing when setting up a carbon project. They will help analyse if the project is right for you, and if adjustments can be made in how it is set up to better suit your long-term goals as a farm. Ready? Keep these in mind:

1. Not all projects are created equal, and each should be assessed on its own merits. Even neighbours with similar land types can have very different businesses running on each property, with different opportunity costs to weigh up. Don’t just assume that because your neighbour is making money off their carbon project, it will stack up for your business context as well. 
2. Consider the financial flexibility arrangements of a carbon project carefully. This comes into play with succession planning, which is made much easier if there is liquidity in the farm. In some cases, it can be a win-win situation where the income from ACCU issuances can be used to support the retirement of the older generation and to meet cash flow requirements for the future. Investigating where ACCU income fits into the puzzle, and if it will help aid or hinder succession planning ensures sustainability of the asset. 
3. Make sure that if you do use a carbon service provider, get legal and accounting advice before signing on the dotted line. These agreements are complicated and full of jargon, make sure you fully understand what you are agreeing to.
4. Consider the Eligible Interest Holder Consent (EIHC) that you will require to register your project. Make sure to factor in the time it will take to get EIHC into your financial modelling, as it can be the difference between whether the project makes sense or not. 
5. Check into the future ramifications of establishing carbon farming projects across different pieces of land. Yes, it can make sense from an auditing perspective to register all the projects together. However, it may be difficult if you do want to sell one piece of this land a few years down the track. 

That wraps up our conversation on taxation considerations for a carbon farming project. If you need advice specific to your project, reach out to Rohan and his team who are happy to help. 

Ready to find out more?

Explore our range of educational resources in our Carbon Farming Education Hub where we frequently publish educational articles, webinars, and guidebooks. 

When you’re ready to explore the feasibility of undertaking a carbon project on your property, email us at [email protected] or give us a bell at (08) 6835 1140 to be connected with one of our project facilitators.