Submission by ECAI – in response to the 2015 Terms of Reference ( ToR) for review of the Export Market Development Grant program.
ToR 1 – Is the current EMDG program effective
Economic effectiveness
In the preparation of more than half the EMDG claims lodged annually to Austrade, ECAI EMDG consultants are close observers to the reaction of applicants to various changes made to this program. The standout issue undermining the potential effectiveness of the EMDG program was the change to introduce a fixed annual budgetary allocation and the split payment mechanism that is activated when the funds allocated are insufficient to meet the face value of claims submitted.
Observers and scrutineers of the EMDG program overlook the fact the EMDG program is ‘performance based’. Apart from the waiver granted to applicants in Years 1 and 2, grants are not payable unless the export applicant performs according the export performance test. Attachments 1 and 2 analyse in detail, the grants paid in comparison to export income generated by applicants in all claim years ( year 1 to year 7) matched against the ‘export performance provisions’ within the legislation. On average over the full claim period, exporters are expected to achieve an average of $10 for each $1 of grant received. The evidence of actual performance shows export income of $40 for each $1 of grant received. A multiple of 4 times. Having taken the risk to incur ‘external’ marketing expense, having achieved the export sales criteria to qualify for a grant entitlement, exporters deserve to be recipients of their full rebate entitlement. Conversely, having incurred expense in one year and be told almost a year later when the balance is due that the final rebate will not be paid is no way to encourage new exporters, or to support sustainable export.
The grant payment shortfall creates negative productivity. This is a ‘red tape’ administrative inefficiency. All parties suffer unnecessary cost and productivity loss – applicants and grant agents are burdened with having to compile expenditure and income data as well as other information that becomes superfluous. Austrade personnel are then required to audit this information which becomes superfluous. The final chapter is the additional administrative recalculation and payment processing regime by Austrade for all applicants above the first payment threshold – all because of a budget CAP.
In the worst case over the past 10 years, the additional cost to the allocated budget is estimated at less than $15M. This has occurred only 3 times over that period. Whereas there has been effectively budget savings in all other years that cumulatively exceed well above the cost overruns. There are too many economic and commercial variables to accurately project the funding required for EMDG payouts on a year by year basis – this needs to be viewed in a longer term light and as the data on the past 10 years clearly indicates, there has been and never likely to be a major ‘blow out’ of funding required for this program.
Recommendation 1.1 Annual budget CAP on EMDG funding to be removed
If the budgetary CAP continues, any grant reduced by split payment should be paid in full from the following year budget allocation. In this way, exporters can have confidence that the assessed grant entitlement will be paid in full, though not necessarily in one instalment. This is a fair and equitable compromise recommendation. Austrade will be fully aware of a likely funding shortfall well before the May budget and therefore such provision can be factored into the projected funding requirements for grant payments in the ensuing claim year.
Recommendation 1.2 Grant entitlements limited by budget CAP split payments to be paid in full from following year budget allocation.
Sustainability
The primary consideration for underpinning an incentive that encourages sustainability is ‘tenure’. The current EMDG legislation provides for a maximum of 8 claim years ( excluding Approved Bodies) and a term of 8 years is considered an optimum timeline for a business to engage in export for the first time and to become established in market(s) that have medium to long term prospects. Again, the export performance test governs the budgetary exposure – after year 3, sales achieved dictate the level of EMDG rebate an exporter can achieve.
Recommendation 2 – Maintain an 8 year claim limit to any one applicant.
Operating provisions
- Cash or accrual
Since the EMDG is a fixed rate rebate ( currently 50% – though in earlier times certain expenses qualified as much as 85%) the present criteria for an applicant to hold an ABN and carry on business in Australia does not differentiate the type of business carried on ( sole trader, partnership, company, trust) or the income tax status of the applicant – by comparison the R&D Tax Incentive is fundamentally only available to companies.
After the inception years in the 1970’s when the rules of ‘incurred’ were based on Accounting convention, the EMDG Act now has its own definition which is basically a ‘cash payment ’ program ( rather than accrual)
The TOR calls for ideas on simplification – applicants continuously question why EMDG is based on a cash payments and receipts principle, whereas the R&D Tax Incentive and Tax generally is based on accrual. Past debate on this principle has focussed on risk with related party transactions. The R&D Tax Incentive provisions of the tax act deal with accruals involving Related Parties by requiring such transactions to be admissible for R&D rebate in the tax year when cash payment occurs. EMDG is fully insulated from transactions on activity ‘within’ Australia in that such transactions are ineligible under the Act. However, the EMDG program could continue to operate on a cash payments basis for ‘overseas’ based activities – that is, marketing activity within Australia to be claimable on an accruals basis – thought overseas marketing activity ( namely Overseas marketing Representatives or Marketing Consultants) to be maintained on a cash paid basis.
EMDG was established in 1974 as a hi-bred derivative from Tax laws. Ever since that time, it has been a program that has operated under separate legislation, regulations, guidelines and Ministerial Determinations. In earlier times, the scheme provided up $250K annual grants, and with budgets of over $200M. In 2015 it continues as a $137M program with some 3000 applicants annually. The law and the rules are by comparison to other initiatives ( e.g. R&D Tax Incentive) extremely prescriptive and with split payments, there is now a growing pool of candidates that elect not to lodge EMDG claims as the claim process has become too tedious and no longer presents as an ‘incentive’.
Recommendation 3 Where marketing activity and supply occurs in Australia, applicants can claim on expenditure accrual basis, whereas marketing activity and supply occurring outside Austrade continues on cash paid basis.
- Transfer of claim history – Section 94
As the life of the EMDG programs extends, more instances present where claim activity of past applicants overlap or have some bearing on a present day or prospective applicant. This scenario is classically known as the ‘Section 94 syndrome’. Cases in this arena inevitably absorb an inordinate amount of resources for all parties – Austrade personnel, applicants, agents, lawyers and ultimately tribunal resources – AAT and Federal Court. There desperately needs to be a shift in policy and fundamentally this needs to be driven by a conscious decision of Government. On one hand the aim of EMDG is to encourage sustainability – yet S.94 when applied has a reverse effect. Naturally there has to be anti avoidance and abuse provisions to deter improper use by fraudulent activity – but the current rules are commercially irrational. Such cases are typically prolonged and inevitably transpire with outcomes that applicants see as unfair and unjust. Typically the outcome is a total win/loose situation with no mid ground for a compromise result.
Elsewhere in this submission there is a recommendation for the appointment of an independent advisory panel and S.94 cases would be a typical matter for consideration by the Panel. ( similar to the IR&D Board on R&D cases )
Recommendation 4 Section 94 of the EMDG Act to be revamped. Cases to be referred to the export incentive advisory panel.
- Scheme rules
Largely the range of marketing activities claimable under EMDG are ‘external’ costs to the applicant – there is a limited range of in house claimable expense such as the cost of samples or familiarisations. There is a strong case that ‘selection and design costs for packaging and labelling of products exclusively for export’ be reinstated as claimable expense as it applied for many years previously. Similarly, education and training are fundamental first steps for any new business initiative and should be encouraged to promote the ‘export culture’ of new exporters. The Govt has made tremendous progress in opening up commercial opportunity for Australian exporters under the various Free Trade Agreements – yet Australian exporters (particularly the SME category ) are largely oblivious of these opportunities. A constructive initiative to address this is to allow expense associated with certain approved ‘education and training’ to be claimable under EMDG.
Recommendation 5 – selection and design of export packaging and labelling costs and approved education and training to be admitted as claimable expenditure.
- Compliance costs and administrative efficiency
Elsewhere we have commented on the risk profile of EMDG applicants being more associated with first time applicants to the program and similarly, applicants in later years posing less contentious issues particularly on basic eligibility issues. The lodgement cycle of applications has become more distorted in the past 2 years with the introduction of the Quality Incentive lodgement program where better performing EMDG consultants can elect to sign on to an end of February lodgement deadline – the deadline for all other applications being end of November. The impact has been to skew the lodgement numbers further into the claim year and putting Austrade under greater administrative pressure to assess all applications by the following June.
Given the features available under the new AusKey based lodgement system and the observation that applicants in years 4 to 8 are typically in a lower risk profile, there is a case for the review of these applications to be outsourced as the skill set is more akin to that of a classic accounting audit.
No specific recommendation is put forward though in terms of achieving administrative efficiency, and improving applicant satisfaction with claim turnaround processing times, the outsourcing of EMDG assessments should be canvassed – particularly in the peak time periods from March to May of each year.
ToR 2 tenure, improved performance, administration funding Period of Extension
The data in Attachments 1 and 2 to this submission provide overwhelming evidence that exporters continue to generate export income well in excess of the export performance test requirements as they progress towards the final year as an EMDG applicant. This is quite compelling evidence of sustainability and underpins the Recommendation that the max claim years should be maintained as 8 claim years. Table 1 highlights the performance of applicants as they progress from First Time Applicants towards their final claim year ( note – statistics used in Table 1 are based on Austrade claim assessment data – year 8 is a recent amendment to the scheme and data for that claim year has not been provided). The export sales data overwhelmingly supports the case that funds applied to rebate the investment in emerging exporters delivers handsome returns to the Australian economy – and it needs to be recognised every $ of export income sustains employment – other reports suggest each direct employment $ of the exporter has an employment multiplier to other Australian business of at least 3:1
Recommendation 2.01 Max claim years to be maintained at 8 grant years.
- Options for Improved performance
The election of an Accrual or cash based claim by applicants will reduce much of the administrative inefficiency, confusion, and complexity of Applicants, Austrade assessors, and agents where there is an opportunity for harmonisation of EMDG with Tax reporting. This will generate significant productivity and performance improvements for applicants and Austrade. As indicated above, there would be a strong case for EMDG claims from Year 4 to 8 to be out sourced particularly to ease the claim processing by Austrade at peak periods when permanent personnel struggle to handle the workload – the situation has become exacerbated by the QI lodgement deadline being moved from end of Nov to end of Feb. Large numbers of claims are now lodged much later than previously which creates a claim processing problem.
- Funding of Administration
First Time Applicants by their very nature require close scrutiny to ensure the base fundamentals of eligibility are compliant with the law and rules of the program. This involves extraction of information and often documentation to establish these principles. There is merit in closely examining early applicants as this knowledge base ( by both applicant and Austrade ) will underpin the likely risk profile of the applicant in subsequent years.
It is not unreasonable that if an applicant is expecting the Government of offer a rebate for up to 8 years on growing a business into the export arena, the Government would expect the exporter to make a commitment to that cause. Accordingly, it is suggested that First Time Exporters pay an application fee of $1,000 to enter the program. In recent years there has been typically 500 to 800 new applicants per year thus creating a potential funding pool of $500-800K. The funding would allow 2 primary activities on claim quality and management.
Firstly, this would allow Austrade to deploy experienced senior personnel to review first time applicants. Austrade would have the capability to review the eligibility and compliance issues that can often plague early applicants Ostensibly, this would not require much change to Austrade resources – more a matter of focussing the workforce where knowledge and experience is balanced against areas of higher risk. This would further support the outsourcing for applicants in later years which are rated as low risk claims.
The second and major aspect of this recommendation is the funding of a 3 person advisory panel to work in association with Austrade management to review and make recommendations to Austrade on difficult case matters – and in particular those within the ambit of S .94 of the EMDG Act.
The operation of this panel would be similar to the way the IR&D Board operates in regard to the R&D Tax Incentive. The panel would comprise highly experienced candidates from a cross section of industries.
Executive Summary
ECAI submits that the EMDG program be retained as the flagship export stimulus initiative to target new and emerging exporters – presently defined as businesses with less than $50M in annual turnover.
The fundamental performance based rebate mechanism is clearly demonstrated as being a winner for both individual exporter applicants and the economy at large.
However, with the finer aspects of the program including the administrative procedure, there are reforms ( as outlined above ) that warrant consideration to make the EMDG program a more effective and successful industry development program.
The ECAI Committee are available to expound on any aspect of this submission should the Review committee seek further input on matters put forward for consideration.