Edited version of private ruling

Authorisation Number: 1011534381479

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Ruling

Subject: Native vegetation offset agreement

Question 1

Will the annual payments received by you in relation to the agreement be included in your assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Will the annual payments received by you under the agreement which have not already been included in your assessable income under section 6-5 of the ITAA 1997 be considered under the capital gains tax (CGT) provisions for inclusion in a partner's individual income tax return?

Answer

Yes.

Question 3

Will there be any income tax or capital gains tax effect as a result of you setting aside a lump sum for a maintenance annuity?

Answer

Yes.

This ruling applies for the following period<s>:

Year ended 30 June 2010

Year ended 30 June 2011

Year ended 30 June 2012

Year ended 30 June 2013

Year ended 30 June 2014

The scheme commences on:

1 July 2009

Relevant facts and circumstances

You purchased your property with an existing standard conservation covenant.

You entered into a native vegetation offset agreement with a government body.

A native vegetation offset is an existing area of native vegetation that is protected and managed in perpetuity to make reparation for the permitted loss of native vegetation through clearing.

Under the agreement, you will receive annual payments.

The agreement is silent about the split between capital and income, however it explains that the total payment is being paid for achieving a gain in quality and quantity of habitat hectares of native vegetation. The improvement work has to be carried out on most of the property.

You could obtain further smaller offsets in the future.

The government body has supplied notes which explain how the vegetation gain is achieved. Some of the payment is for loss of rights and for loss of property value while the rest is for improvement work carried out by landholders or contractors employed by landholders.

The government body notes divide the gain into three types and their calculator provides a portion of the payment assigned to each:

Prior management gain - which acknowledges actions to manage the site since controls for native vegetation removal were introduced.

Security gain - being for the covenant which requires a commitment to maintain the improvement gain (that is, no subsequent decline in quality). This is more restrictive than a standard covenant and requires the improvements to be maintained in perpetuity. This is thought to reduce the value of the property more than a standard covenant as any future landholder will have to continue the work.

Maintenance and improvement gain - which can be further divided as it includes an agreement to forego entitlements. These will be foregone by future owners as well, which will further decrease the potential value of the property.

This proportion is made up of:

- retaining of all fallen timber and standing trees, that is, no firewood collection or native vegetation removal, and also means no native seed collection.

- exclusion of all stock and ensuring weed level does not increase.

- eliminating all high threat weeds and controlling pest animals.

To achieve the improvement gains for the agreement payments, you must carry on ground work and report your progress to the government body every year for ten years.

You plan to maintain the native vegetation yourselves and you do not anticipate employing any external contractors.

Income will be forgone and there is an opportunity cost for firewood.

You are also considering entering into an agreement where there is an allowance for a lump sum for maintenance annuity. This would involve setting aside a lump sum for a maintenance annuity, where the income is used for weed control in perpetuity. This would be transferred with the sale of the land and would for part of the agreement.

You have forwarded a copy of the agreement.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 27H

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 40-630

Income Tax Assessment Act 1997 Subsection 40-635(1)

Income Tax Assessment Act 1997 Section 104-25

Income Tax Assessment Act 1997 Subsection 112-30(3)

Income Tax Assessment Act 1997 Section 118-20

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA (ITAA 1936) to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA (ITAA 1936) applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA, go to our website www.ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.

Reasons for decision

Will the annual payments received by you under the agreement be included in your assessable income?

Section 6-5 of the ITAA 1997 provides that an amount is included in the assessable income if it is income according to ordinary concepts (ordinary income). Amounts paid in consideration of the performance of services will almost always be income.

The agreement indicates that the payments are paid in consideration of the performance of services, and are the product of the land management services performed by you.

The payments will be included in your assessable income as ordinary income under section 6-5 of the ITAA 1997 in the years that the payments are actually made.

Note

There is no indication in the agreement that any portion of the payments would be of a capital nature, such as for the loss of value of land or for entering into a conservation covenant over the land. We have therefore not been able to determine that any portion of the payments is of a capital nature. If any portion of the payments is determined to be of a capital nature by the government body, then these portions will not be included in your assessable income under section 6-5 of the ITAA 1997.

Will the annual payments received by you under the agreement fall for consideration under the CGT provisions?

It is your individual partners who make a capital gain or capital loss from a CGT event, and not you. For CGT purposes, each partner owns a proportion of each CGT asset, and each partner calculates a capital gain or capital loss on their share of each asset.

When you receive an annual payment, CGT event C2 under section 104-25 of the ITAA 1997, relating to cancellation, surrender and similar endings, will happen to a part of your entitlement to receive annual payments.

The capital proceeds from CGT event C2 happening is the amount of the annual payment.

The cost base for the part of the right that ends when an annual payments is made is a proportion of the cost base of your right to receive annual payments worked out under subsection 112-30(3) of the ITAA 1997.

Any capital gain made by your partners when CGT event C2 happens is reduced (but not below zero) by the amount of the annual payment that is included in your assessable income under section 6-5 of the ITAA 1997 (section 118-20 of the ITAA 1997).

Income tax effect of an allowance for a lump sum for maintenance activity

The maintenance annuity which will be paid is an annuity as defined in subsection 27H(4) of the Income Tax Assessment Act 1936 (ITAA 1936) and will therefore be included in your assessable income under subsection 27H(1) of the ITAA 1936.

Certain capital expenditure incurred in carrying out management actions under the agreement may be deductible as expenditure on a landcare operation for land under section 40-630 of the ITAA 1997 if the land is used for either:

- a primary production business or

- in the case of rural land, carrying on a business for a taxable purpose from the use of that land - except a business of mining or quarrying.

A landcare operation includes an operation primarily and principally for the purpose of eradicating, exterminating or destroying plant growth detrimental to the land (subsection 40-635(1) of the ITAA 1997).

CGT effect of an allowance for a lump sum for maintenance annuity

A capital gain or capital loss is made only if a CGT event happens, and most CGT events involve a CGT asset. Setting aside a lump sum for a maintenance annuity will not result in a CGT event happening and there will be no CGT effect at this time.

The account in which the lump sum is held will, however, be a CGT asset, and the CGT provisions will need to be considered by your partners if a CGT event happens in relation to this account.

Any capital expenditure incurred for weed control on the land which you have not deducted or can not deduct under section 40-630 of the ITAA 1997 will be included in the fourth element of the cost bases of your partner's interests in the land, as capital costs to increase or preserve the value of the land.

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