Revised Explanatory Memorandum(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)
Chapter 8 - Capital expenditure that is deductible over time
Outline of chapter
8.1 Subdivision 40-I contains the rules that allow certain capital expenditure associated with a project but that is not a cost of a depreciating asset under the uniform capital allowance system to be written-off over a period of time. This type of expenditure is pooled and written-off over project life. Some other expenditures are written-off over 5 years: or, for some expenditures, the life of an underlying depreciating asset.
Context of reform
8.2 The introduction of the uniform capital allowance system and the allowing of previously non-deductible capital expenditure, are a key component of the New Business Tax System announced in Treasurers Press Release No. 74 of 11 November 1999 (refer to Attachment L).
8.3 However, certain expenditure that is not a cost of a depreciating asset and that is deductible under the current law over different statutory periods will now be deductible over the project life or, for some expenditures, the life of an underlying depreciating asset.
Summary of new law
8.4 Subdivision 40-I allows certain expenditure in relation to a project to be pooled and written-off on the basis of the effective life of the project. It also allows certain other expenditure in relation to certain kinds of underlying depreciating assets to be written-off on the basis of the effective life of the asset. Some other expenditures are written-off over 5 years.
|New law||Current law|
|Certain blackhole expenditure that does not form part of the cost of a depreciating asset but that relates to a project may be written-off over the life of the project to which it relates.||Capital expenditure that is not incurred on plant is not deductible under the current law unless specifically provided for.|
|Specified types of expenditure will be written-off in a straight line over 5 years.||Equivalent blackhole expenditure is not deductible because of its capital nature or it is incurred prior to any income earning activity.|
Detailed explanation of new law
8.5 This Subdivision deals with capital expenditure (other than certain expenditure incurred by primary producers) that does not form part of a depreciating asset, but nonetheless is allowed to be amortised over a period of time. That period can either be in relation to the life of a project ( project life ) or the life of an underlying asset or over a statutory life.
Relationship with the mining provisions under Division 330 of the current law
8.6 This Subdivision also ensures that any expenditure associated with the mining, petroleum and quarrying sector that was previously deductible under Division 330 and not captured by previous Subdivisions in Division 40 will be captured. In this regard, all expenditure previously deductible under Division 330 would have been captured under the uniform capital allowance system in the following ways:
- by ensuring allowable capital expenditureand transport capital expenditureunder Division 330 that forms part of the cost of a depreciating asset you hold, is deducted under Subdivision 40-B;
- by specifically including mining, quarrying or prospecting rights and information as depreciating assets, thereby ensuring the cash bidding payments in Subdivision 330-D are captured;
- by replicating Subdivisions 330-A, 330-G and 330-I in Subdivision 40-H; and
- by including any other allowable capital expenditureand transport capital expenditureunder Division 330 that is not captured by Subdivision 40-B as part of a project pool and deductible under Subdivision 40-I over the project life or the effective life of the depreciating asset as appropriate.
Expenditure to be written-off over project life
Allocation of expenditure to a project pool
8.7 Taxpayers can deduct certain expenditure (a project amount ) through a project pool by allocating that amount to the pool [Schedule 1, item 1, subsection 40-830(1)] . Having allocated the project amount to the pool, you can deduct an amount of the project pool each year [Schedule 1, item 1, subsection 40-830(2)] .
8.8 A project amount may consist of 2 types of expenditure. First, it consists of mining capital expenditure and transport capital expenditure (described in paragraph 80 and 8.25) incurred by taxpayers that:
- does not form part of the cost of a depreciating asset that you hold or are taken to have held;
- is not deductible under another provision of the income tax law; and
- is directly connected with carrying on the mining operations in relation to mining capital expenditure or with the business in relation to which the transport capital expenditure is incurred.
[Schedule 1, item 1, subsection 40-840(1)]
8.9 The inclusions of this first type of expenditure as a project amount ensures that all allowable capital expenditure and transport capital expenditure that would have been deductible under Division 330 of the ITAA 1997 is now deductible under the new Division 40. Where this expenditure forms part of the cost of a depreciating asset that the taxpayer holds, it is deductible under section 40-25. In that case it is not deductible under Subdivision 40-I.
8.10 Second, it includes specific types of expenditure that also do not form part of a depreciating asset that is held by a taxpayer and is not deductible under another provision of the income tax law [Schedule 1, item 1, paragraphs 40-840(2)(a) and (b)] . These types of expenditure must be directlyconnected with a project the taxpayer carries on for a taxable purpose, thus ensuring expenditure that is essentially of a private or domestic nature is not deductible under the pool treatment [Schedule 1, item 1, paragraph 40-840(2)(c)] .
8.11 Having satisfied the requirements in the preceding paragraph, the following amounts of capital expenditure will be project amounts:
- amounts to create or upgrade community infrastructure;
- amounts for site preparation costs for a depreciating asset other than, for horticultural plants and grapevines, expenditure in draining swamp or low-lying land or expenditure in clearing land;
- amounts for feasibility studies for the project;
- amounts for environmental assessments of the project;
- amounts for information associated with the project;
- amounts to obtain a right to intellectual property; and
- amounts for ornamental trees or shrubs.
[Schedule 1, item 1, paragraph 40-840(2)(d)]
8.12 Including amounts for environmental assessments as a project amount ensures that expenditure that would have been deductible under Subdivision 400-A of the ITAA 1997 is now deductible under Division 40.
Calculating the deduction for a project pool
8.13 The deduction for a project pool commences for the income year when the construction or preparatory stage of the project is sufficiently completed that the project begins to operate [Schedule 1, item 1, section 40-855] . Because a project is something you carry on (or propose to carry on) for a taxable purpose, it does not begin to operate until you start to do the things that themselves will support that purpose. Generally, your taxable purpose is the purpose of producing assessable income; a project with that purpose will start to operate when you start to do the things which themselves will produce assessable income. For example, suppose the project is carrying on a mining operation to produce assessable income. The project will start to operate when you start the extraction activities.
8.14 The deduction is calculated using the diminishing value method by multiplying the pool value by the fraction that represents 150% divided by DV project pool life . For the first year in which an amount is allocated to the pool, the pool value is the total of those amounts so allocated. For any subsequent year, it is the closing pool value plus any further amounts allocated in that year. This rule does not discount the deduction for the possibility that pool expenditures may be incurred after the start of the income year. [Schedule 1, item 1, subsection 40-830(3)]
8.15 The deduction is to be reduced by a reasonable amount to any extent to which the project does not operate for a taxable purpose. [Schedule 1, item 1, section 40-835]
8.16 For the first year in which an amount is allocated to the pool, the closing pool value is the total of those amounts so allocated, less any amounts deducted for the pool or that could have been deducted had it been wholly used for a taxable purpose [Schedule 1, item 1, paragraph 40-830(7)(a)] . For any subsequent year, it is the closing pool valuefor the previous income year, plus any further amounts allocated in that year, less any amounts deducted for the pool or that could have been deducted had it been wholly used for a taxable purpose [Schedule 1, item 1, paragraph 40-830(7)(b)] .
8.17 The calculation of the closing pool value ensures any additional amounts allocated to the pool are included in the formula for calculating the deduction. Further, it ensures the value of the pool will decline to its fullest extent each year notwithstanding there has been some private or domestic use associated with the project.
8.18 Where the project is abandoned, sold or otherwise disposed of in an income year, there is a deduction available in that income year for an amount equal to the closing pool valuefor the previous income yearplus any further amounts allocated in that year. This deduction is available regardless of whether the project has started to operate, and so regardless of whether section 40-855 has been satisfied. Consequently, taxpayers can deduct the remaining balance of the pool even though they have not commenced to deduct amounts for the project pool under section 40-855. For example, a deduction is available if a project does not in fact commence because it is abandoned. Further, a deduction would also be available for unsuccessful feasibility project expenditure. In both cases, the deduction is to be an immediate deduction. [Schedule 1, item 1, subsections 40-830(4) and (7)]
8.19 Taxpayers who receive proceeds from the abandonment, sale or from any other disposal of the project must include those proceeds in their assessable income in the income year they receive those proceeds. [Schedule 1, item 1, subsection 40-830(5)]
8.20 Taxpayers must also include in their assessable income any amounts they derive in relation either to a project amount they have allocated to their project pool or in relation to something on which such a project amount was expended. This rule and the previous rule together ensure that all receipts in relation to pooled amounts have been included in assessable income, and so the closing deduction can be allowed in full without carrying out the equivalent of a balancing adjustment calculation. As the project pool does not relate to depreciating assets held by the taxpayer, this approach is intended to simplify the application of the project pool rules. [Schedule 1, item 1, subsection 40-830(6)]
8.21 There is a limit on the deductions for the project pool. By limiting each years deduction to the pool value for that year, this ensures that the total decline in value of the pool cannot be more than the total of the project amounts allocated to the pool. [Schedule 1, item 1, subsection 40-830(8)]
8.22 Generally, this will be the project life, or if that project life has been recalculated (which may happen if the circumstances of the project change in a way which make the project life already being used incorrect), it is the most recently recalculated project life. In determining the project for these purposes, it is the taxpayers project and not the other parties asset or project that is the relevant project.
8.23 The project life is the effective life of the project or its most recently recalculated effective life. The effective life of the project is worked out from when the project starts to operate until it stops operating. It must be recalculated each year, as it is freshly applied in the formula each year. [Schedule 1, item 1, section 40-845]
What is mining capital expenditure and transport capital expenditure?
8.24 These terms replicate the current concepts of allowable capital expenditure and transport capital expenditureunder the current law. [Schedule 1, item 1, sections 40-860 to 40-875]
8.25 These definitions and related terms are intended to reflect the definitions contained in the existing Division 330 of the ITAA 1997 under the current law.
Expenditure to be written-off over a statutory life
8.26 Taxpayers will be able to deduct the following 7 types of expenditure to the extent the relevant business is carried on for a taxable purpose:
- business establishment costs;
- business restructuring costs;
- business equity raising costs;
- costs of defending their business against a takeover;
- costs to the business of unsuccessfully attempting a takeover;
- costs of liquidating a company that carried on a business and of which you are a shareholder; and
- costs of ceasing to carry on the business.
[Schedule 1, item 1, subsection 40-880(1)]
8.27 Examples of business establishment costs include the costs of incorporating a company, costs of setting up a partnership or trust and costs of obtaining relevant information in connection with the business.
8.28 This expenditure will be deducted over a 5-year period on a straight line basis with no apportionment required for expenditure incurred part way through the year. [Schedule 1, item 1, subsection 40-880(2)]
8.29 Expenditure will only be deductible under section 40-880 to the extent that:
- it is not included in the cost of either a depreciating asset held by the taxpayer or land; or
- it is not deductible under another provision of the income tax law apart from section 40-880.
[Schedule 1, item 1, subsection 40-880(3)]
8.30 As a consequence of the introduction of the uniform capital allowance system, the rules for non-arms length transactions apply across the whole Subdivision. [Schedule 1, item 1, section 40-885]