The government has given industry first option to draft the code, failing which it will take on the task itself.
Attorney-General Michaelia Cash on Monday released an exposure draft of the Privacy Legislation Amendment (Enhancing Online Privacy and Other Measures) Bill 2021.
It would lead to creation of a binding Online Privacy code. Platforms covered by the code would need to have stronger protections for children on social media, and take all reasonable steps to verify their users' age.
Also proposed are tougher penalties and enforcement powers to enable the Office of the Australian Information Commissioner to resolve matters more effectively.
"We know that Australians are wary about what personal information they give over to large tech companies," said Cash.
"We are ensuring their data and privacy will protected and handled with care. Our draft legislation means that these companies will be punished heavily if they don't meet that standard."
Assistant Minister to the Prime Minister for Mental Health and Suicide Prevention David Coleman said: "In Australia, even before the COVID-19 pandemic, there was a consistent increase in signs of distress and mental ill-health among young people. While the reasons for this are varied and complex, we know that social media is part of the problem.
"Young people have told us this themselves. In a 2018 headspace survey of over 4000 young people aged 12 to 25, social media was nominated as the main reason youth mental health is getting worse. And the recent leak of Facebook's own internal research demonstrates the impact social media platforms can have on body image and the mental health of young people.
"That's why this legislation is so important. It will provide families with powerful protections, and require fundamental changes to the way that social media platforms operate in Australia."
Cash's department also also released a discussion paper as part of the broader review of the Privacy Act 1988 (Privacy Act).
Written submissions on the code can be sent in by 3 December while submissions to the discussion paper must be sent by 7 January 2022.