Edited version of your written advice

Authorisation Number: 1012674387507

Ruling

Subject: Capital gains tax rollover relief - exercise of the Commissioner's discretion

Question 1

Will the Commissioner exercise his discretion pursuant to subsection 124-75(3) of the Income Tax Assessment Act 1997 (ITAA 1997) to allow a period greater than 12 months after the end of the income year in which the event happens to acquire a replacement asset?

Answer

Yes

Question 2

Subject to a positive response to Question 1, will the Commissioner allow an extension of time to dd/mm/yyyy, 15 months after the reinstatement value was agreed to by the insurance company?

Answer

Yes

This ruling applies for the following period(s)

Years ended 30 June 2014 to 30 June 2015

The scheme commences on

1 July 2013

Relevant facts and circumstances

1. The ABC Trust owned a pre-CGT commercial building. This building was leased by the Trust to tenants who operated commercial ventures from the building.

2. A disaster destroyed the building.

3. On the same day that the disaster occurred, an insurance claim was lodged.

4. Approximately 6 months later, the Trustee of the ABC Trust resolved that it would reinstate the building through the acquisition of an existing building or buildings.

5. The Loss Adjuster representing the insurance company required the Trust to engage a Quantity Surveyor to estimate the cost of replacing the destroyed building with a similar building. As a result, the ABC Trust's Quantity Surveyor estimated that it would cost $X million to replace the building.

6. The Loss Adjuster representing the insurance company also engaged its own Quantity Surveyor who provided a cost estimate of $Y million for the replacement of the building.

7. A year and half after the date of the disaster, the insurance company paid the ABC Trust the indemnity value of $Z for the property. This payment was made without any solicitation from the Trust. Based on advice received by the Trust, these funds were held informally in trust for the insurance company as the Trust did not want the payment of the funds to be interpreted by the insurance company as a surrendering of its rights for reinstatement.

8. While waiting for the insurance company to determine the reinstatement value, the ABC Trust considered purchasing a replacement building from its own resources. However, as there was uncertainty surrounding the outcome of the insurance claim, in particular with regards to the reinstatement value, the Trust determined that the commercially viable properties were outside its own financial resources. As a result, the Trust did not pursue the option of purchasing a replacement building from its own funds.

9. The ABC Trust responded to all of the insurance company's requests within a reasonable timeframe.

10. Some months after the insurance claim was originally made by the ABC Trust, the insurance company determined a reinstatement value of $V million for the destroyed building. Payment of the funds is contingent on the following:

a. the ABC Trust providing a copy of the Commercial Property Sales Contract to the insurance company

b. the engagement of valuers to determine the value of the land component of the purchase, as the amount to be provided by the insurance company is compensation only for the building component

c. the insurance company accepting the value of the land component of the purchase, and

d. that the insurance company is provided with evidence demonstrating that settlement on the property occurred.

11. Since the insurance company advised that the reinstatement value had been determined, the ABC Trust has actively pursued purchasing commercially viable replacement buildings. To this end the Trust:

a. has made offers on three buildings that were not accepted by the vendors

b. has purchased two properties, and

c. is in the process of settling on another property.

12. Based on the valuations of the above three properties, the ABC Trust will have a further $X available to it for full reinstatement of the destroyed property.

13. The ABC Trust is currently pursuing purchasing other commercial properties and anticipates that it will need to supplement the reinstatement proceeds to fully fund the purchase of a further property.

Relevant legislative provisions

Section 124-75 of the Income Tax Assessment Act 1997

Reasons for decision

Question 1

Will the Commissioner exercise his discretion pursuant to subsection 124-75(3) of the ITAA 1997 to allow a period greater than 12 months after the end of the income year in which the event happens to acquire a replacement asset?

REPLACEMENT ASSET ROLL-OVERS

14. In certain circumstances, if a taxpayer ceases to hold a capital gains tax (CGT) asset and commences owning another CGT asset, they are able to defer the capital gain or loss from the first CGT event to a later CGT event pursuant to Division 124 of the ITAA 1997. This is known as a replacement asset roll-over.

15. The roll-over provisions relating to CGT assets that have been compulsorily acquired, lost or destroyed are provided in Subdivision 124-B of the ITAA 1997. In relation to a CGT asset that has been destroyed, paragraph 124-70(1)(b) provides that a taxpayer may be able to choose a roll-over.

16. With regards to an insurance policy against the risk of loss or destruction of the original CGT asset, section 124-70(2) of the ITAA 1997 provides that either money or another CGT asset, or both, must be received.

17. Where a taxpayer has received money as a result of the loss or destruction of the CGT asset, subsection 124-75(1) of the ITAA 1997 provides that the requirements in subsections124-75(2) to (6) must also be met in order for a taxpayer to choose to obtain roll-over relief.

18. Subsection 124-75(2) of the ITAA 1997 provides that:

a. expenditure must be incurred in acquiring another CGT asset, and

b. expenditure of a capital nature must be incurred if part of the original asset is lost or destroyed.

19. Subsection 124-75(3) of the ITAA 1997 further provides that at least some of the expenditure must be incurred, unless further time is allowed by the Commissioner under special circumstances, by:

a. no earlier than one year before the event occurred, or

b. no later than one year after the end of the income year in which the event occurred.

Application to your circumstances

20. The ABC Trust owned a pre-CGT commercial building which was destroyed. Approximately 6 months later, the Trustee of the ABC Trust resolved that it would reinstate the destroyed building through the acquisition of an existing building, or buildings.

21. Pursuant to subsections 124-75(2) and (3) of the ITAA 1997, for the ABC Trust to be eligible to choose CGT rollover relief for the acquisition of an existing building or buildings, it must incur expenditure within one year after the end of the income year in which the disaster occurred. This is unless additional time is provided by the Commissioner due to special circumstances. In this case, the end of the income year in which the destruction occurred was 30 June in year one. Therefore, the Trust had until one year after this date, being 30 June in year two, to incur expenditure on a replacement asset (or assets) without an extension being granted by the Commissioner due to special circumstances.

22. The ABC Trust lodged an insurance claim on the day on which building was destroyed 30 June of year one, agreement with the insurance company regarding the reinstatement value of the destroyed building had not been reached. Therefore, no replacement assets had been purchased by the Trust in the timeframe required by subsection 124-75(3) of the ITAA 1997. The ABC Trust is therefore ineligible to access the CGT replacement asset rollover relief unless the Commissioner allows additional time due to special circumstances, pursuant to paragraph 124-75(3)(b).

What is meant by the term 'special circumstances'?

23. As explained by TD 2000/40 Income Tax: capital gains: what are 'special circumstances' for the purposes of subsection 124-75(3) of the Income Tax Assessment Act 1997 (TD 2000/40) at paragraph 1, the expression 'special circumstances' is by its nature incapable of a precise or exhaustive definition. Paragraph 3 further explains that what is considered to be special circumstances will depend on the specific facts of each particular case.

24. The examples provided by TD 2000/40 give additional guidance on what would be considered special circumstances by the Commissioner. For instance, example 1 outlines a situation where Amanda and John own a saddle shop that has been compulsorily acquired by a State authority. The compensation was not received by Amanda and John until one month before subsection 124-75(3) of the ITAA 1997 required them to replace the shop and therefore, they are not able to acquire replacement assets within this short period of time. In this example, the Commissioner would accept that the delay in receiving the compensation would constitute special circumstances warranting an extension of time.

25. Example 3 of TD 2000/40 outlines another case in which it would be accepted that special circumstances would exist. In this example Graeme's commercial property was compulsorily acquired by a State authority. He was in protracted legal disputes with the State authority regarding the quantum of the compensation figure. Based on these facts the Commissioner would accept that there are special circumstances to allow further time, pursuant to subsection 124-75(3) of the ITAA 1997.

Application to your circumstances

26. After lodging the insurance claim, Loss Adjuster representing the insurance company required the ABC Trust to engage a Quality Surveyor to estimate the replacement cost for the destroyed building. The ABC Trust's Quality Surveyor estimated that it would cost approximately $X million to replace the building.

27. The Quality Surveyor engaged by the insurance company's Loss Adjuster estimated a lower replacement cost of approximately $Y million.

28. An unsolicited indemnity payment of $Z for the property was paid by the insurance company to the ABC Trust a month and a half after the Trust was required to have incurred capital expenditure for the replacement asset in order to gain access to the replacement asset rollover relief. Despite receipt of these funds, the ABC Trust did not want the payment to be interpreted by the insurance company as a surrendering of its rights for reinstatement. Consequently, the ABC Trust held the indemnity payment informally on trust for the insurance company.

29. It was not until a year and half after the date of the disaster that the reconciliation process between the two estimates was complete and a reinstatement value of $V million was accepted by the insurance company. That is, the reinstatement value was not agreed to until some three months after the ABC Trust was required to have incurred capital expenditure for the replacement asset in order to gain access to the replacement asset rollover relief.

30. The delay in reaching agreement for the reinstatement value was not due to actions of the ABC Trust. The Trust made a number of concessions (totalling approximately $Y) and responded to all of the insurance company's requests within a timely manner.

31. Also, while waiting for the insurance company to determine the reinstatement value, the ABC Trust considered purchasing a replacement building from its own resources. However, as there was uncertainty surrounding the outcome of the insurance claim, in particular with regards to the reinstatement value, the Trust determined that the commercially viable properties were outside its own financial resources. As a result, the Trust did not pursue the option of purchasing a replacement building from its own funds.

32. The ABC Trust has demonstrated that it commenced pursuing the purchase of replacement buildings by no later than three months after the reinstatement value was agreed upon.

33. The ABC Trust has since purchased two properties and has also entered into a contract of sale for another.

34. The Commissioner considers that these circumstances are consistent to those examples of special circumstances provided by TD 2000/40. Similar to the facts of example 1, in which the taxpayer did not receive compensation until one month before subsection 124-75(3) of the ITAA 1997 required them to purchase a replacement asset, the ABC Trust did not obtain certainty as to the reinstatement value until three months after the timeframe required by the subsection. In example 1, the Commissioner accepted that special circumstances existed to warrant an extension of time.

35. The Commissioner also considers that the circumstances of the ABC Trust are consistent with those explained in example 3 of TD 2000/40. In this example, the taxpayer was in protracted dispute with the State Authority with regards to the value of the compensation amount for an asset that has been compulsorily acquired and the Commissioner concluded that special circumstances exist. Similarly, the ABC Trust has been in protracted negotiations with the insurance company regarding the reinstatement value of the building destroyed.

36. The Commissioner therefore accepts that the delay in obtaining agreement to the reinstatement value constitutes special circumstances in this situation and will allow an extension of time pursuant to subsection 124-75(3) of the ITAA 1997.

Question 2

Subject to a positive response to Question 1, will the Commissioner allow an extension of time of 15 months after the reinstatement value was agreed to by the insurance company?

Extension of time due to special circumstances

37. As mentioned earlier, subsection 124-75(3) of the ITAA 1997 provides that at least some of the expenditure must be incurred on a replacement asset, unless further time is allowed by the Commissioner under special circumstances, by:

a. no earlier than one year before the event occurred, or

b. no later than one year after the end of the income year in which the event occurred.

38. Neither the legislation or TD 2000/40 provide guidance regarding how much additional time would generally be acceptable for the Commissioner in the case of special circumstances.

Special rules if another asset is acquired

39. Subsection 124-75(4) of the ITAA 1997 provides for special rules in the event that another asset has been acquired. In particular, subsection 124-75(4) provides that if the original asset was:

a. used in the taxpayer's business

b. installed ready for use in the taxpayer's business, or

c. in the process of being installed ready for use in the taxpayer's business

just before the event happened, the other asset must be used in the business or, installed ready for use in the business, for a reasonable time after the taxpayer acquired it. Otherwise, subsection 124-75(4) provides that the taxpayer must use the other asset for the same, or similar, purpose for which the original assets was used prior to the event happening.

40. Subsection 124-75(5) and (6) of the ITAA 1996 provide that the other asset cannot :

a. become an item of trading stock after it's been acquired

b. be a depreciating asset, or

c. become a registered emissions unit after it's been acquired.

Application to your circumstances

41. Although the legislation and TD 200/40 do not provide guidance with regards to the length of additional time the Commissioner allows pursuant to paragraph 124-75(3)(b) of the ITAA 1997, he considers that the ABC Trust's request for an extension of 15 months would be acceptable. This is based on the following considerations:

a. as the Trust submitted an insurance claim on the day on which the building was destroyed, it took timely action to commence the process of acquisition of replacement asset/s

b. there is no evidence to demonstrate that the delay in reaching agreement to the reinstatement value was caused by the actions of the Trust

i. in contrast, the Trust responded to all of the insurance company's requests within a timely manner

c. the Trust considered purchasing replacement buildings from its own resources but it did not have sufficient funds in advance of the insurance proceeds to do so

d. the Trust commenced researching commercially viable replacement buildings by no later than 3 months after the reinstatement value had been agreed by the insurance company

e. given the state of the commercial real estate market, the ABC Trust has had to purchase more than one building to replace that destroyed. This has complicated and delayed the process

f. the Trust has purchased two commercial properties

g. the Trust has entered into a contract of sale to purchase a third commercial property

h. given the date on which that the third commercial property is scheduled to settle, the Trust will have purchased three properties within 11 months of the reinstatement figure being agreed to by the insurance company, and

i. pursuant to subsections 124-75(2) and (3) of the ITAA 1997, given the date on which the destruction occurred, the Trust had just over 15 months to incur the necessary cost.

Copyright notice

© Australian Taxation Office for the Commonwealth of Australia

You are free to copy, adapt, modify, transmit and distribute material on this website as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).