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Edited version of your written advice
Authorisation Number: 1012763045418
Ruling
Subject: Derivation of lease incentive payment
Question
Are you assessable on a lease incentive payment in the year in which it was received?
Answer:
Yes.
This ruling applies for the following period
Year ending 30 June 2014
The scheme commenced on
1 July 2013
Relevant facts and circumstances
The arrangement that is the subject of the private ruling is described below. This description is based on your private ruling application. This document forms part of and is to be read with this description.
You entered into a lease agreement with a landlord to lease premises from which to conduct your business.
As an incentive to enter into the lease the landlord offered to pay a portion of the fit-out expenses of the premises ('the Landlord's Contribution').
The total amount paid was received by you in the 2013-14 financial year.
The incentive payment was paid on the basis that you remain in occupation of the premises for the entire term of the lease. If you ceased to lease or occupy the premises, a percentage was to be repaid depending on the period occupied.
You are proposing to sell the business.
The fit-out remains your property as the tenant, despite the payment of the Landlord's Contribution.
Relevant legislative provisions
Income Tax Assessment Act 1997 Section 6-5
Reasons for decision
Summary
The lease incentive payment is considered to be assessable income when it is derived in the 2013-14 financial year.
The payment was made on the basis of you entering into the lease agreement. The amount does not represent a prepayment for any goods or services and therefore cannot be spread over the term of the lease.
Detailed reasoning
Taxation Ruling IT 2631 deals with the taxation consequences of lease incentives.
IT 2631 states that in a case where a business taxpayer is given a cash incentive to enter into a lease of business premises, the incentive is income of the taxpayer.
Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) requires an amount of ordinary income to be brought to account as assessable income when it is derived. In the majority of cases this occurs in the income year the payment is received or dealt with on your behalf.
Arthur Murray (NSW) Pty Ltd v Federal Commissioner of Taxation (1965) 114 CLR 314; 14 ATD 98; (1965) 9 AITR 673 (Arthur Murray) is one of the leading cases on whether payments received in advance of the supply of goods or services contracted to be supplied is derived in the year of receipt. The case involved a taxpayer who carried on a business of giving dancing tuition. The taxpayer lodged their income tax returns on the basis that payments received in advance of lessons taught did not form part of its assessable income immediately upon receipt. In this case, the Court found that the payments were only assessable once earned by the giving of the lessons.
The Court noted that the parties agreed that according to established accountancy and commercial principles, amounts received by a business, either selling goods or supplying services, in advance of the goods being delivered or the services being supplied are not regarded as income. The amounts are only transferred to an income account 'when the goods are delivered or the services rendered' for that is when the amounts 'finally acquire the character of income'.
In your case, in the event of you ceasing to lease or occupy the premises within the potentially maximum number of years of entering the lease, a proportion of the lease incentive is repayable.
Section 6-1 of the ITAA 1997 provides that the assessable income of an entity for an income year is the sum of the ordinary and statutory income 'derived' by the entity for the year.
Subsection 6-5(4) of the ITAA 1997 provides:
In working out whether you have derived an amount of ordinary income, and (if so) when you derived it, you are taken to have received the amount as soon as it is applied or dealt with in any way on your behalf or as you direct.
Therefore, an amount (including an amount which has been received), will not be included in assessable income for an income year, unless it has been derived during that year.
In Brent v. FC of T (1971) 125 CLR 418; (1971) 71 ATC 4195; (1971) 2 ATR 563, the High Court said at CLR 428; ATC 4200; ATR 570:
It has become well established that unless the Act makes some specific provision on the point the amount of income derived is to be determined by the application of ordinary business and commercial principles and that the method of accounting to be adopted is that which is calculated to give a substantially correct reflex of the taxpayers true income (The Commissioner of Taxes (South Australia) v The Executor, Trustee and Agency Company of South Australia Limited (Cardens case) (1938) 63 CLR 108; 1 AITR 416; (1938) 5 ATD 98).
If the income is not to be assessed in the year of receipt, the circumstances would have to be similar to those found in Arthur Murray. It is considered that these circumstances do not arise in your particular case.
The payment is made on the basis of you entering into the lease agreement. The amount does not represent a prepayment for any goods or services.
You received the full amount of the lease incentive in the 2013-14 income year without any restriction being placed on its use.
If there is a breach of the lease agreement, there will be a requirement to repay some or all of the incentive money received however the risk of having to make refunds is not determinative in this case. The contingency that some part or all of the lease incentive may have to be paid back upon termination of the agreement only exists as a result of certain actions by you as lessee. Unlike Arthur Murray, the contingency is not linked to the failure to provide contracted goods or services.
Accordingly, you will be required to include in your assessable income the full amount of the lease incentive in the 2013-14 income year when it was received. The assessability of the payment cannot be spread over the full lease period.
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