House of Representatives

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)

Chapter 5 - Net input tax credits and capital gains tax

Outline of chapter

5.1 Schedule 5 to this bill amends the ITAA 1997 to ensure that GST net input tax credits are excluded from the cost base, reduced cost base and other relevant amounts used for the purposes of working out the amount of a capital gain or capital loss. Context of amendments

5.2 Net capital gains for an income year are included in assessable income. Broadly, a net capital gain arises if a taxpayer's capital gains for an income year exceed his or her capital losses.

5.3 Generally, a capital gain arises if the amount received upon disposal of a CGT asset exceeds the cost base of the asset. A capital loss arises if the reduced cost base of a CGT asset exceeds the amount received upon disposal of the asset.

5.4 Currently, GST net input tax credits are not excluded from all elements of the cost base or from any element of the reduced cost base.

5.5 This situation is inappropriate because taxpayers who make a capital gain on the disposal of a CGT asset in many circumstances can include GST net input tax credits in the cost base of the asset even though the relevant GST expenditure is effectively recouped. Consequently, the amount of capital gain on disposal of the asset is inappropriately reduced by the amount of the GST net input tax credits.

5.6 Similarly, taxpayers who make a capital loss on the disposal of a CGT asset can include GST net input tax credits in the reduced cost base of the asset even though the relevant GST expenditure is effectively recouped. Consequently, the amount of a capital loss on disposal of the asset is inappropriately inflated by the amount of the GST net input tax credits.

Summary of new law

5.7 For the purposes of working out the amount of any capital gain or capital loss:

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GST net input tax credits will be excluded from the cost base and reduced cost base; and

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if the capital gain or capital loss is worked out by reference to an amount other than the cost base or reduced cost base, GST net input tax credits will be excluded from that other amount.

Detailed explanation of new law

Reduction of the cost base, reduced cost base and other amounts by net input tax credits

5.8 Any amount that is used to calculate a capital gain or capital loss will be reduced by the amount of any GST net input tax credits in relation to that element. [Schedule 5, item 3, section 103-30]

5.9 Generally a capital gain arises if the amount received upon disposal of a CGT asset exceeds the cost base of the asset. A capital loss arises if the reduced cost base of a CGT asset exceeds the amount received upon disposal of the asset. Consequently, the amount that is used to calculate a capital gain or capital loss from a CGT event will generally be the cost base or reduced cost base. Therefore, to assist readers, notes referring to section 103-30 are inserted into the cost base and reduced cost base provisions. [Schedule 5, items 4, 5 and 8]

Example 5.1

Nick purchases a non-depreciating capital asset for use in his business. The cost is $1,100, including $100 GST. Nick claims an input tax credit of $100. He later disposes of the asset, triggering CGT event A1. The cost base of the asset is $1,000 - that is, $1,100 less the related input tax credit of $100.

5.10 For some CGT events the capital gain or capital loss is worked out by reference to an amount other than the cost base or reduced cost base. For example:

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for CGT events C3, D2, D3, F1, F3, F5, and H1, the capital gain or capital loss is worked out by comparing the capital proceeds with relevant specified expenditure; and

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for CGT events D1, E9 and H2, the capital gain or capital loss is worked out by comparing the capital proceeds with incidental costs.

5.11 Therefore, the amount that is used to calculate a capital gain or capital loss in relation to these CGT events will be the specified expenditure, incidental costs or other relevant amount.

Example 5.2

Louise grants an option to an entity for consideration of $10,000 and incurs $550 in legal fees, including $50 in GST. She claims an input tax credit of $50. CGT event D2 (section 104-40) applies to the transaction. In working out the capital gain or capital loss in relation to the CGT event, the expenditure incurred to grant the option will be $500 - that is, $550 reduced by the $50 input tax credit.

5.12 Consequential amendments remove subsections 110-45(3A) and 110-50(3A). Those provisions exclude GST input tax credits from the first three elements of the cost base of a CGT asset acquired after 7.30 pm on 13 May 1997. The provisions have been replaced by section 103-30. [Schedule 5, items 6 and 7]

Goods and services tax increasing and decreasing adjustments

5.13 The 'net input tax credit' for an acquisition or importation is defined in subsection 995-1(1) to mean, broadly, the amount of any input tax credit adjusted by any increasing and decreasing adjustments. If there is a decreasing adjustment for an acquisition, the net input tax credit increases. If there is an increasing adjustment, the net input tax credit decreases.

5.14 Section 17-10 includes certain decreasing adjustments in assessable income. Section 27-10 allows a deduction for certain increasing adjustments. To ensure that decreasing and increasing adjustments are only counted once for income tax purposes, sections 17-10 and 27-10 will not apply if the adjustments reduce an amount that is used in the calculation of a capital gain or capital loss. [Schedule 5, items 1 and 2, subsections 17-10(2) and 27-10(4)]

Application and transitional provisions

5.15 The amendments apply to CGT events that happen after the day this bill is introduced into the Parliament.