What is a depreciating asset?
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A depreciating asset is an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used. Depreciating assets include such items as computers, electric tools, furniture and motor vehicles.
Land and items of trading stock are specifically excluded from the definition of depreciating asset.
Most intangible assets are also excluded from the definition of depreciating asset. Only the following intangible assets, if they are not trading stock, are specifically included as depreciating assets:
- in-house software; see In-house software
- certain items of intellectual property (patents, registered designs, copyrights and licences of these)
- mining, quarrying or prospecting rights and information
- certain indefeasible rights to use a telecommunications cable system
- certain telecommunications site access rights
- spectrum licences, and
- datacasting transmitter licences.
Improvements to land or fixtures on land (for example, windmills and fences) may be depreciating assets and are treated as separate from the land, regardless of whether they can be removed or not.
In most cases, it will be clear whether or not something is a depreciating asset. If you are not sure, contact us or your recognised tax adviser.
Depreciating assets excluded from the UCA
Deductions for the decline in value of some depreciating assets are not worked out under the UCA. These depreciating assets are:
- depreciating assets that are capital works, for example, buildings and structural improvements for which deductions
- are available under the separate provisions for capital works
- would be available if the expenditure had been incurred, or the capital works had been started, before a particular date
- would be available if the capital works were used in a deductible way in the income year
- cars where you use the cents per kilometre method for calculating car expenses; this method takes the decline in value into account in its calculations
- indefeasible rights to use an international telecommunications submarine cable system if the expenditure was incurred or the system was used for telecommunications purposes at or before 11.45am by legal time in the Australian Capital Territory (ACT) on 21 September 1999
- indefeasible rights to use a domestic telecommunications cable system or telecommunications site access rights if the expenditure was incurred before 12 May 2004; special rules apply to deem certain of those rights to be acquired before that date, and to exclude certain expenditure incurred on or after that date that actually relates to an earlier right
- eligible work-related items, such as laptop computers, personal digital assistants, computer software, protective clothing, briefcases and tools of trade, if the item was provided to you by your employer, or some or all of the cost of the item was paid for or reimbursed by your employer, and the provision, payment or reimbursement was exempt from fringe benefits tax (there is no deduction available to you for the decline in value of such items)
- depreciating assets for which deductions were available under the specific film provisions.
Who can claim deductions for the decline in value of a depreciating asset?
Only the holder of a depreciating asset can claim a deduction for its decline in value.
In most cases, the legal owner of a depreciating asset will be its holder.
There may be more than one holder of a depreciating asset, for example, joint legal owners of a depreciating asset are all holders of that asset. Each person’s interest in the asset is treated as a depreciating asset. Each person works out their deduction for decline in value based on their interest in the asset (for example, based on the cost of the interest to them, not the cost of the asset itself) and according to their use of the asset.
In certain circumstances, the holder is not the legal owner. Some of these cases are discussed below.
If you are not sure whether you are the holder of a depreciating asset, contact us or your recognised tax adviser.
Leased luxury cars
A leased car, either new or second-hand, is generally a luxury car if its cost exceeds the car limit that applies for the financial year in which the lease is granted. The car limit for 2015–16 is $57,466; see Car limit.
For income tax purposes, a luxury car lease (other than a genuine short-term hire arrangement) is treated as a notional sale and loan transaction.
The first element of cost of the car to the lessee and the amount lent by the lessor to the lessee to buy the car is taken to be the car's market value at the start time of the lease. For further information on the first element of cost, see The cost of a depreciating asset.
The actual lease payments made by the lessee are divided into notional principal and finance charge components. That part of the finance charge component applicable to the particular period may be deductible to the lessee.
The lessee is generally treated as the holder of the luxury car and is entitled to claim a deduction for the decline in value of the car. For the purpose of calculating the deduction, the first element of cost of the car is limited to the car limit for the year in which the lease is granted.
Any deduction must be reduced to reflect any use of the car other than for a taxable purpose, such as private use.
If the lessee does not actually acquire the car from the lessor when the lease terminates or ends, the lessee is treated as if they sold the car to the lessor. The lessee will need to work out any assessable or deductible balancing adjustment amount; see What happens if you no longer hold or use a depreciating asset?
Depreciating assets subject to hire purchase agreements
For income tax purposes, certain hire purchase and instalment sale agreements entered into after 27 February 1998 are treated as a notional sale of goods by the financier (or hire purchase company) to the hirer, financed by a notional loan from the financier to the hirer. The hirer is in these circumstances treated as the notional buyer and owner under the arrangement. The financier is treated as the notional seller.
Generally, the cost or value of the goods stated in the hire purchase agreement or the arm’s length value is taken to be the cost of the goods to the hirer and the amount lent by the financier to the hirer to buy the goods.
The hire purchase payments made by the hirer are separated into notional loan principal and notional interest under a formula set out in Division 240 of the Income Tax Assessment Act 1997. The notional interest may be deductible to the hirer to the extent that the asset is used to produce assessable income.
Under the UCA rules, if the goods are depreciating assets, the hirer is regarded as the holder provided it is reasonably likely that they will actually acquire the asset.
If these conditions are met, the hirer is able to claim a deduction for decline in value to the extent that the assets are used for a taxable purpose, such as for producing assessable income.
If the hirer actually acquires the goods under the agreement, the hirer continues to be treated as the holder. Actual transfer of legal title to the goods from the financier to the hirer is not treated as a disposal or acquisition.
On the other hand, if the hirer does not actually acquire the goods under the arrangement, the goods are treated as being sold back to the financier at their market value at that time. The hirer will need to work out any assessable or deductible balancing adjustment amount; see What happens if you no longer hold or use a depreciating asset?
The notional loan amount under a hire purchase agreement is treated as a limited recourse debt; see Limited recourse debt arrangements.
Leased depreciating assets fixed to land
If you are the lessee of a depreciating asset and it is fixed to your land, under property law you become the legal owner of the asset. As the legal owner you are taken to hold the asset. However, an asset may have more than one holder. Despite the fact that the leased asset is fixed to your land, if the lessor of the asset (often a bank or finance company) has a right to recover it, then they too are taken to hold the asset as long as they have that right to recover it. You and the lessor, each being a holder of the depreciating asset, would calculate the decline in value of the asset based on the cost that each of you incur.
Example: Holder of leased asset fixed to land
Jo owns a parcel of land. A finance company leases some machinery to Jo who pays the cost of fixing it to her land. Under the lease agreement, the finance company has a right to recover the machinery if Jo defaults on her lease payments.
The finance company holds the machinery as it has a right to remove the machinery from the land. The finance company is entitled to deductions for the decline in value of the machinery based on the cost of the machinery to it.
However, Jo also holds the machinery as it is attached to her land. She is entitled to a deduction for the decline in value of it based on the cost to her of holding the machinery. This would not include her lease payments but would include the cost of installing the machinery. For more information about what amounts form part of the cost of a depreciating asset, see The cost of a depreciating asset.
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Depreciating assets which improve or are fixed to leased land
If a depreciating asset is fixed to leased land and the lessee has a right to remove it, the lessee is the holder for the time that the right to remove the asset exists.
Example: Holder of depreciating asset fixed to leased land
Jo leases land from Bill, who owns the land. Jo purchases some machinery and fixes it to the land. Under property law the machinery is treated as part of the land so Bill is its legal owner.
However, under the terms of her lease, Jo can remove the machinery from the land at any time. Because she has acquired and fixed the machinery to the land and has a right to remove it, Jo holds the machinery for the time that the right to remove it exists.
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If a lessee or owner of certain other rights over land (for example, an easement) improves the land with a depreciating asset, that person is the holder of the asset if the asset is for their own use, even though they have no right to remove it from the land. They remain the holder for the time that the lease or right exists.
Example: Holder of depreciating asset that improves leased land
Jo leases land from Bill to use for farming. Jo installs an irrigation system on the land which is an improvement to the land. While Bill is the legal owner under property law as the irrigation system is part of his land, Jo holds the irrigation system. Even though she has no right to remove the irrigation system under her contract with Bill, Jo may deduct amounts for its decline in value for the term of the lease because:
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- she improved the land, and
- the improvement is for her use.
The partnership and not the partners or any particular partner is taken to be the holder of a partnership asset, regardless of its ownership. A partnership asset is one held and applied by the partners exclusively for the purposes of the partnership and in accordance with the partnership agreement.