Edited version of your written advice

Authorisation Number: 1012774486736

Ruling

Subject: Mining compensation

Question 1

Will the compensation payments (annual and lump sum) be assessable as ordinary income as defined by section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No

Question 2

Will compensation payments represent capital proceeds of any CGT event in Division 104 of the ITAA 1997?

Answer

No

Question 3

Will the compensation payment reduce the cost base of the relevant property for any future capital gain under section 110-40 or s110-45 of the ITAA 1997?

Answer

Yes

Issue 2

Goods and Service Tax

Question 1

Is there a GST liability for the Landholders when the company pays them compensation under the agreement for the effects caused or likely to be caused by the company's activities on the Land?

Answer

No

Question 2

Are the legal fees and accounting fees incurred by the Landholders in relation to the agreement creditable acquisitions?

Answer

Yes

This ruling applies for the following period(s)

Income year ended 30 June 2014

Income year ended 30 June 2015

Income year ended 30 June 2016

Income year ended 30 June 2017

Income year ended 30 June 2018

Income year ended 30 June 2019

The scheme commences on

On or after 1 June 2014

Relevant facts and circumstances

You are the landowners of a property which you use to carry on a primary production business. You are registered for GST.

You have entered into an agreement under a statutory authority with a company to compensate you for mining related activities carried on your property.

The agreement details the agreed authorised activities relevant to the damages caused.

The agreement along with the statutory scheme provides that you have been compensated for the following heads of damage:

• deprivation of possession of its surface;

• diminution of its value;

• severance of any part of the land from other parts of the land;

• any cost, damage or loss arising from the carrying out of the activities under the petroleum authority on the land

• legal, account and valuation costs incurred in negotiation the agreement.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 section 110-40

Income Tax Assessment Act 1997 section 110-45

A New Tax System (Goods and Services Tax) Act 1999 section 9-5

A New Tax System (Goods and Services Tax) Act 1999 section 9-10

A New Tax System (Goods and Services Tax) Act 1999 section 11-5

A New Tax System (Goods and Services Tax) Act 1999 section 11-15

A New Tax System (Goods and Services Tax) Act 1999 section 11-20

Reasons for decision

Issue 1

The act provides a statutory scheme to provide compensation to landowners for the impacts of petroleum and gas production activities; and requires the relevant parties to enter into an agreement. The purpose of the scheme is to ensure that landowners are not financially disadvantaged by activities carried out on their property. Landowners are entitled to compensation for any compensatable effects related to the impact of the activities on their business operations and land use.

Payments pursuant to the statutory scheme are generally treated as capital in nature where those amounts are compensation payments for compensatable effects. It is considered that characterising the payments as capital in nature is in keeping with the ATO view on the taxation treatment of compensation receipts contained in Taxation Ruling TR 95/35. For the purposes of TR 95/35 it is necessary to identify the underlying asset. TR 95/35 defines an underlying asset:

The underlying asset is the asset that, using the 'look-through' approach, is disposed of or has suffered permanent damage or has been permanently reduced in value because of some act, happening, transaction, occurrence or event which has resulted in a right to seek compensation from the person or entity causing that damage or loss in value or against any other person or entity.

If there is more than one underlying asset, the relevant underlying asset is the asset which leads directly to the payment of the amount of compensation. For example, if a taxpayer receives an amount of compensation for the destruction of his or her truck, the truck is the underlying asset.

The decisions in Nullaga Pastoral Company Pty Ltd v FC of T 78 ATC 4329; (1978) 8 ATR 757 and Barrett v Federal Commissioner of Taxation [1968] HCA 59; (1968) 118 CLR 666; 15 ATD 149; 10 AITR 685 are relevant to identifying the underlying asset in the current context. In both of those cases the landholders were conducting ongoing successful farming operations. The payments were held to be compensation for damage to property which formed part of the profit-yielding structure of the landholders.

Paragraph 6 of TR 95/35 provides that it is the Commissioner's view that where an amount of compensation is received wholly in respect to permanent damage suffered to a CGT asset of the taxpayer and there is no disposal of the asset, the compensation represents a recoupment of purchase price. The total acquisition costs for the relevant asset should be reduced by the amount of compensation received under section 110-40 or 110-45 of the ITAA 1997.

We consider that you have been compensated under the statutory scheme primarily for permanent damage to an underlying asset being your property. As the property is not being disposed of, the compensation will reduce the cost base of the property for any future capital gain.

Issue 2

Summary

The payment from the company to the Landholders is paid and received as compensation to the Landholders to discharge the companies statutory compensation liability for losses relating to the Land including damage to the Land resulting from the company's Authorised Activities being carried on the Land. Any loss suffered by the Landholders is not a supply that the Landholders make to the company hence there is no GST liability for the Landholders.

The legal fees and accounting fees incurred by the Landholders in relation to the agreement are creditable acquisitions because they are enterprise costs.

Detailed reasoning

Question 1:

Section 9-5 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) states:

You make a taxable supply if:

(a)    you make the supply for *consideration; and

(b)    the supply is made in the course or furtherance of an *enterprise that you *carry on;

and

(c)    the supply *is connected with Australia; and

(d)    you are *registered or *required to be registered.

However, the supply is not a *taxable supply to the extent that it is *GST-free or *input taxed.

A supply is broadly defined in section 9-10 of the GST Act to include the creation, grant, transfer, assignment or surrender of any right or an entry into, or release from an obligation to refrain from an act or to tolerate an act or situation.

Is there a supply from the Landholders to the company of the right to access the Land and carry out the Authorised Activities?

Goods and Services Tax Ruling 2001/4 (GSTR 2001/4), sets out the Commissioner's views relating to GST consequences of court orders and out-of-court settlements. In relation to the meaning of supply, paragraphs 22 and 25 of GSTR 2001/4 state:

22. Essentially, a supply is something which passes from one entity to another. The supply may be one of particular goods, services or something else.

25. Subsection 9-10(2) refers to two aspects of a supply; the thing which passes, such as goods, services, a right or obligation; and the means by which it passes, such as its provision, creation, grant, assignment, surrender or release

Goods and Services Tax Ruling 2006/9 (GSTR 2006/9), examines the meaning of "supply" in the GST Act. Proposition 5 in paragraph 71 of GSTR 2006/9 provides that to "make a supply" an entity must do something. The relevant paragraphs are paragraphs 74 and 78 (as follows):

74. However, Underwood J was of the view, with which the Commissioner also agrees, that an entity can still make a supply even if the supply is made under the compulsion of statute if the entity takes some action to cause a supply to occur. His Honour went on to compare a supply resulting from a positive act against a situation where there is no supply because nothing is done.

It seems to me that different considerations arise when considering the meaning of 'supply' in the Act. Notwithstanding the statutory compulsion, the liquidator's disposition in St Hubert's Island Pty Ltd (in liq) was something that was 'made' by him and for that reason would be likely to be considered a supply within the meaning of the Act. This is quite a different situation from the matter at hand, for the release of the obligation to pay a judgment sum by the payment of that sum will occur regardless of whether the judgment creditor makes or does any act at all. It was held in Databank Systems Ltd v. Commissioner of Inland Revenue (NZ) (1987) 9 NZTC 6213 that 'supply' means 'to furnish or provide'. Application of that proposition to the word 'supply' as enacted in the Act, s9-10 reinforces the concept that there is a legislative intention not to include in the word 'supply' the release of an obligation that occurs independently of the act of the releasor.

78. The Court's wider comments about 'supply' and 'obligation' in paragraphs 16, 22 and 23 of its decision were expressed with some caution. With respect, the Commissioner does not consider the Court has stated a general principle, contrary to our proposition, that a supply can be brought about by operation of law in the absence of an entity taking any positive action. The Commissioner distinguishes something brought about solely by operation of law where there is no supply, from something done by an entity as a consequence of a legal requirement where there may be a supply, as was the situation noted by Underwood J in Shaw citing the example of the liquidator's actions in St Hubert's Island. The Commissioner also distinguishes an action that results in obligations arising by operation of law, as the Full Court found in Westley, where there may be a supply by the entity taking the action.

The company is the holder of the relevant leases and the registered holder of an Authority. The company has the rights to undertake Authorised Activities on the Land provided the company meets its Compensation Liability (under the statutory authority) to the Landholders and enter into a Conduct and Compensation Agreement with the Landholders according to the statutory authority.

In such circumstances, the right to access the Land and carry out the Authorised Activities on the Land is vested in the company as a holder of the Authority under the statutory authority. The Landholders do not transfer or surrender their rights related to mining on the Land to the company. Hence there is no supply from the Landholders to the company of the right to access the Land and carry out the Authorised Activities.

Discontinuance supply:

Upon receipt of the compensation amounts in the agreement, the Landholders accept that they give up their rights to pursue further compensation in relation to the Authorised Activities. However, we do not consider that the giving up of the rights is a separate supply from the Landholders to the company since it is not the reason the compensation amount is paid to the Landholders. Paragraphs 106 to 109 of GSTR 2001/4 state:

106. Where the only supply in relation to an out-of-court settlement is a 'discontinuance' supply, it will typically be because the subject of the dispute is a damages claim. In such a case, the payment under the settlement would be in respect of that claim and not have a sufficient nexus with the discontinuance supply.

107. In most instances, a 'discontinuance' supply will not have a separately ascribed value and will merely be an inherent part of the legal machinery to add finality to a dispute which does not give rise to additional payment in its own right. They are in the nature of a term or condition of the settlement, rather than being the subject of the settlement.

108. We do not consider that the inclusion of a 'no liability' clause in a settlement deed alters this position. 'No liability' clauses are commonly included in settlement agreements and we do not consider their inclusion to alter the substance of the original dispute, or the reason payment is made.

109. We consider that a payment made under a settlement deed may have a nexus with a discontinuance supply only if there is overwhelming evidence that the claim which is the subject of the dispute is so lacking in substance that the payment could only have been made for the discontinuance supply.

Damage

The payment under the agreement is compensation in respect of any damage caused or likely to be caused to the Land and any inconvenience suffered by the Landholders as a consequence of the company's Authorised Activities carried out on the Land. In paragraph 71 of GSTR 2001/4, the Commissioner identifies situations where the subject matter of a claim for damages or compensation cannot be regarded as a 'supply'. Examples of such claims include property damage, negligence causing loss of profits, wrongful use of trade name, breach of copyright, termination or breach of contract or personal injury. Hence the payment under the agreement is not consideration for a supply from the Landholders to the company.

In summary, when the Landholders receive compensation damage from the company, there is no supply from the Landholders to the company and no consideration. Hence there is no GST liability arising for the Landholders.

Question 2:

Under section 11-20 of the GST Act, an entity is entitled to an input tax credit for any creditable acquisition that it makes.

The term 'creditable acquisition' is defined in section 11-5 of the GST Act as follows:

You make a creditable acquisition if:

(a)   you acquire anything solely or partly for a creditable purpose; and

(b)    the supply of the thing to you is a taxable supply; and

(c)    you provide, or are liable to provide, consideration for the supply; and

(d)    you are registered, or required to be registered.

The Landholders acquired the accounting service (invoice dated dd/mm/yyyy of $x GST inclusive) and the legal services (invoice dated dd/mm/yyyy of amount $x GST inclusive) from the third parties. These supplies to the Landholders are taxable supplies. The Landholders are registered for GST. The acquisitions would satisfy paragraphs (b), (c) and (d) of section 11-5 of the GST Act. The next step is to consider paragraph (a) of section 11-5 of the GST Act.

Creditable purpose:

In the context of assessing the creditable purpose of the Landholders' acquisitions of the legal and accounting services, it needs to be determined if the Landholders acquired them in carrying on their enterprise, which is predominantly a livestock grazing enterprise including a fattening operation (livestock grazing).

'Creditable purpose' is defined in section 11-15 of the GST Act as follows:

(1)   You acquire a thing for a creditable purpose to the extent that you acquire it in carrying on your enterprise.

(2)   However, you do not acquire the thing for a creditable purpose to the extent that:

(a)   the acquisition relates to making supplies that would be input taxed; or

(b)   the acquisition is of a private or domestic nature.

(3)   An acquisition is not treated, for the purposes of paragraph (2)(a), as relating to making supplies that would be input taxed to the extent that the supply is made through an enterprise, or part of an enterprise, that you carry on outside Australia.

Paragraph 55 of GSTR 2006/4 states:

....The acquisition needs to be made in the course of the activities that constitute your enterprise. An acquisition is made 'in carrying on your enterprise' if it is made for the purposes of that enterprise, but not if it is made for some other purpose. You could engage in an activity that is usually done by the enterprise, but is not for the purposes of that enterprise.

We accept that the legal and accounting expenses would be acquired for the purpose of ensuring that the livestock grazing enterprise as a whole is sustained. However, to the extent that the legal and accounting expenses are identified as relating to the company, we need to consider whether they are properly characterised as costs that relate to all supplies that the Landholders make, or would the acquisitions be incurred for the purpose of receiving compensation.

We consider that the acquisitions do not relate to a particular supply because no supply is made by the landowners to the company for which the Landholders receive the compensation amount.

Paragraph 138 of Goods and Services Tax Ruling (GSTR) 2008/1 describes acquisitions that do not directly relate to particular supplies as follows:

Other acquisitions do not directly relate to any specific type of supplies. Instead, they have an indirect relationship to all the supplies that the entity makes in carrying on its enterprise.

Paragraphs 141 and 142 of GSTR 2008/1 characterises these types of expenditures as overheads or enterprise costs.

Paragraph 63 of Goods and Services Tax Ruling (GSTR) 2006/4 states:

63. Carrying on an enterprise includes those activities that you do in actually managing or conducting that enterprise. Certain acquisitions or importations relate to the carrying on of the enterprise as a whole and are not directly linked to the making of supplies but nonetheless they relate indirectly to all activities of the enterprise. These may be referred to as enterprise costs and may include costs such as compliance costs for meeting Australian Securities and Investment Commission (ASIC), GST or income tax obligations, directors' fees or the costs of maintaining a register of shareholders...

We accept that the accounting and legal acquisitions relate to the the Landholders' enterprise as a whole and the expenses may be incurred for a creditable purpose because:

• the legal expenses involve the provision of advice and information that may protect/ preserve the enterprise of livestock grazing.

• the accounting expenses are incurred for the Landholders to meet income tax obligations.

The acquisitions therefore satisfy the requirements of subsection 11-15(1).

The acquisitions of legal and accounting services are not of a private or domestic nature.

The Landholders do not make any input-taxed supply.

Therefore, the acquisitions of legal and accounting services satisfy the requirements of 'creditable purpose' of section 11-15 of the GST Act, hence paragraph 11-5(a) of the GST Act is satisfied. In summary, all requirements of section 11-5 of the GST Act are satisfied, and the legal and accounting fees are creditable acquisitions.

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