Edited version of your private ruling

Authorisation Number: 1012567431934

Ruling

Subject: Income Tax: Assessable income: government payments

Issue 1

Question 1

Will the government funding for the expansion and upgrade of an existing facility under constitute assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

No

Question 2

Will the government funding for the expansion and upgrade of an existing facility constitute assessable income under section 15-10 of the ITAA 1997?

Yes

Issue 2

Question 1

Will government funding for the expansion and upgrade of an existing facility be assessable under Part 3-1 of ITAA 1997?

No

This ruling applies for the following period(s)

1 July 2010 to 30 June 2011

The scheme commences on

1 July 2010

Relevant facts and circumstances

The taxpayer lodged an application for government funding to expand and upgrade existing facilities to permit it to increase its commitment to the aims of the government program

The application was approved and an Agreement signed after which the funding was paid in a lump sum.

The taxpayer commenced construction on its leased premises. There was no further hold over the assets under the Agreement after several years.

The taxpayer receives funds from

· Its services

· Government funding that encourages certain services

· Other government funding

· Rent from external consultants.

The government funding for certain services is paid on an hourly basis to the taxpayer who reimburses the employee who provides the service

The employees also perform other services which generates the taxpayer's income.

The taxpayer is a large concern and many of its employees perform the services which receive government funding on an hourly basis.

Before the expansion the taxpayer was only able to provide certain services on a limited basis.

After the construction and expansion of the facilities the taxpayer was able to supply certain services to a far larger extent meeting the aims of the government funding that provided the money for the construction.

Part of the expansion included refurbishment of a facility that is used both to generate income from the taxpayer's usual services and for certain services receiving the hourly government funding. Aside from this facility, the remainder of the expanded facilities do not generate income for the taxpayer.

Additional construction costs of the expansion were met by the taxpayer.

Relevant legislative provisions

Section 6-5 Income Tax Assessment Act 1997

Section 15-10 Income Tax Assessment Act 1997

Part 3-1 Income Tax Assessment Act 1997

Section 104-25 Income Tax Assessment Act 1997

Section 104-35 Income Tax Assessment Act 1997

Section 118-20 Income Tax Assessment Act 1997

Reasons for decision

Issue 1

Question 1

Subsection 6-5 of the ITAA 1997 provides that the assessable income of an Australian resident includes income according to ordinary concepts, derived directly or indirectly from all sources during the income year. There is no definition of 'ordinary income' in income tax legislation. In determining whether an amount is ordinary income, the courts have established the following principles:

· what receipts ought to be treated as income must be determined in accordance with the ordinary concepts and usages of mankind, except in so far as statute dictates otherwise

· whether the payment received is income depends upon a close examination of all relevant circumstances; and

· it is an objective test.

In this case the taxpayer is providing services that produce its income. It also provides certain other services which receive government funding on an hourly basis.

The taxpayer received government funding in a single sum to fund construction of expanded facilities that would allow the taxpayer to increase certain other services in accordance with the aim of the program. The taxpayer does not derive income from leasing these expanded facilities. The funding has been received in relation to the carrying on of the taxpayers business. However it is a one off receipt for the construction of a facility which will increase the profit yielding structure of the business.

Business trading receipts are considered 'ordinary income'. The receipt of the grant funding cannot be said to have resulted from a particular trading activity. A typical trading activity undertaken by the taxpayer would be the receipt of a fee in return for its services. In terms of Commonwealth financial assistance, ongoing payments hourly payments made to employees would also be considered to have resulted from trading activities.

The primary issue in this instance is the relationship between the payment and the business activities. Examination of this relationship will determine whether the payment is correctly characterised as a gain made in the course of business or trading activities.

It is considered that the grant funding lacks the necessary connection with the taxpayer's business activities to constitute ordinary income. It is a one-off grant that is not a payment by the Commonwealth government for a particular trading activity undertaken. The payment was made to assist in meeting the costs of capital acquisitions of facilities. The grant funding is considered a capital receipt, not ordinary income and therefore, not assessable income under section 6-5 of the ITAA 1997.

Question 2

Section 15-10 of the ITAA 1997 includes bounties and subsidies paid to a taxpayer in their assessable income where the taxpayer receives the subsidy in relation to carrying on a business and the payment is not assessable as ordinary income under section 6-5 of the ITAA 1997. We have determined at question 1 that the grant funding received by the taxpayer is not assessable income pursuant to section 6-5 because it is capital.

Taxation Ruling TR 2006/3 provides guidance on section 15-10 and explains the meaning of 'bounty or subsidy' at paragraphs 93-95.

93. Payments of financial assistance by government are commonly referred to as 'bounties', 'subsidies' or 'grants'. As 'bounty', 'subsidy' and 'grant' are not defined terms, the ordinary meaning of these terms applies.

94. 'Subsidy' is defined as '1. a direct pecuniary aid furnished by a government to a private industrial undertaking, a cultural organisation, or the like; 2. a sum paid, often in accordance with a treaty, by one government to another, to secure some service in return; 3. a grant or contribution of money'. The ordinary meaning adopted by case law is an 'aid provided by the Crown [government] to foster or further some undertaking or industry'.

95. 'Bounty' is defined to include 'a premium or reward, especially one offered by a government'. When 'bounty' and 'subsidy' are positioned together the compound term is interpreted as describing financial assistance given to assist business.

Case law indicates that payment must be made by a government authority or by a government agency before that payment can be characterised as a bounty or a subsidy. In First Provincial Building Society Ltd v FCT (1995) 30 ATR 207; 95 ATC 4145 Hill J considered the ordinary meaning of "subsidy" for the purposes of former section 26(g) of the Income Tax Assessment Act 1936 and at 30 ATR 213; ATC 4150 adopted the observation of Windeyer J in Placer Development Ltd v Commonwealth (1969) 121 CLR 353. Windeyer J at CLR 373 stated:

The word is no longer used in its early legal sense of a grant to the Crown. It ordinarily means today not aid given to the Crown but aid provided by the Crown to foster or further some undertaking or industry.

The grant funding was paid to the taxpayer by the Commonwealth government to foster certain services, an initiative of the Commonwealth. The amount paid is considered to be aid given by the Crown that was received by the taxpayer as a lump sum. The funding was expended in full in meeting the terms of the agreement. The payment is a subsidy.

Taxation Ruling TR 2006/3 also provides guidance on the meaning of 'in relation to carrying on a business' in paragraphs 99-101. Paragraph 100 examines the meaning of 'in relation to' and based on the First Provincial case concludes that the term includes within its scope payments that have a direct or indirect connection to the business. The payment of the ICTC to the taxpayer was as a direct result of an application by the business for funding to increase certain services through an infrastructure development on its leased premises. The payment has a direct connection to the business.

Paragraph 101 explains the relationship between the payment of the bounty or subsidy and 'carrying on' the business and quotes from Hill J in the First Provincial case:

the relationship must be to the 'carrying on' of the business. These words may perhaps be understood in opposition to a relationship with the actual business itself. They would make it clear, for example that a bounty received, merely in relation to the commencement of a business or the cessation of the business, would not be caught. The expression 'carrying on of a business' looks, in my opinion, to the activities of that business which are directed towards the gaining or producing of assessable income, rather than merely to the business itself.

The purpose of the subsidy was to enable the taxpayer to build and renovate the infrastructure to expand certain services. It achieved this. Its activities were expanded, not commenced nor ceased.

The question is whether certain services performed which receive the hourly government funding are part of the business activities carried on by the taxpayer.

Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production? provides the following indicia as a guide to carrying on a business.

· whether the activity has a significant commercial purpose or character; this indicator comprises many aspects of the other indicators.

· whether the taxpayer has more than just an intention to engage in business.

· whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity.

· whether there is repetition and regularity of the activity.

· whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business.

· whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit.

· the size, scale and permanency of the activity.

The taxpayer has many employees performing services which generate its income.

The taxpayer's activities are broadly described in the source of its funding as:

· Its services

· Government funding paid on an hourly basis that encourages certain services.

· Other government funding

· Rent from external consultants.

Whilst the government funding that encourages certain services is paid on an hourly basis, the services performed by the taxpayer's employees is organized and recorded by the taxpayer's administration staff. These services are often performed simultaneously with other services from which the taxpayer generates its income. The certain services for which the government reimburses the taxpayer on an hourly basis are planned, organised and carried on in a businesslike manner as part of the day to day operations of the taxpayer.

However, notwithstanding the reimbursement arrangements, the taxpayer is still deriving revenue from services provided simultaneously. In addition the taxpayer also receives revenue from the facility that is shared between certain services receiving hourly funding from the government and employees providing fee paying services for the business. The construction of the facilities has allowed the taxpayer to increase the range and number of services offered to its customers. The activities that are undertaken in the facilities form part of the income producing activities performed by the taxpayer. The certain services that receive government funding have a purpose of profit as well as a prospect of profit from the activities.

The taxpayer is a large business providing an increased range of services since the expansion of its facilities. The size and scale and permanency of its varied activities including the range of opportunities offered since the facilities were completed reflect the aims of the government funding for the capital works. The expansion of the premises further supports a conclusion that this is a large permanent business in the area.

The facilities, including the shared facility, that were afforded by the subsidy allows the business to provide activities from which it derives income in a similar manner to other similar businesses.

The activities conducted in the facilities and in the shared facility provide income for the taxpayer. The activities which are services which draw government funding, whilst an adjunct to the day to day activities, nevertheless contribute to the income generating activities and are an integral part of the taxpayer's business activities. The activities form part of the taxpayer's business activities and are repeated on a regular basis.

The government grant provided the funds to build the expanded facilities. It is through the expanded infrastructure that the taxpayer has been able to increase the certain services which draw the hourly government funding and it is through those services that the taxpayer generates income for an enterprise that has a significant commercial purpose.

The grant was provided with a specific aim to increase the incidence of certain services that draw government funding on an hourly basis. The taxpayer operates a business that profits, in part, from the certain services provided by the business. The grant has been received in respect of the carrying on of a business activity.

Taxation Ruling TR 2006/3 states at paragraph 16 that a government payment that assists a business to carry on its activities and is a subsidy, capital in nature and received in relation to carrying on a business is assessable under section 15-10 in the income year in which it is received.

The subsidy provided by the Commonwealth government to the taxpayer was received in relation to the carrying on of the business and is capital in nature. Accordingly it is assessable income of the taxpayer under section 15-10.

Issue 2

Question 1

Through the Agreement, the Commonwealth created a right in the business to receive government funding under the program.

CGT event D1 (section 104-35 ITAA 1997) happened when the taxpayer acquired the right to the payment and subsequently CGT event C2 (section 104-25 ITAA 1997) happened when the payment was actually received.

The taxpayer may have made either a capital gain or a capital loss from the CGT event C2 happening.

However, section 118-20 of the ITAA 1997 states:

118-20 Reducing capital gains if amount otherwise assessable

118-20(1) A capital gain you make from a CGT event is reduced if, because of the event, a provision of this Act (outside of this Part) includes an amount (for any income year) in:

(a) your assessable income or exempt income; or

(b) ……

As the government funding for the capital works is considered to be a subsidy under section 15-10 of the ITAA 1997, subsection 118-20(1) of the ITAA 1997 applies to exclude that amount from being assessed under the provisions relating to capital gains.

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