Edited version of your written advice

Authorisation Number: 1012782543802

Ruling

Subject: Transitional rule for post-1 July 2001 mining, quarrying or prospecting right

Summary

Section 40-77 of the IT(TP)A 1997 did not operate to prevent Division 40 of the ITAA 1997 applying to Mining Lease when it was granted after 1 July 2001. Accordingly, section 702-1 of the IT(TP)A 1997 did not apply to Mining Lease when Company X acquired Company Z. Therefore, where the other requirements in Division 40 are satisfied, Company Y is entitled to decline in value deductions (as worked out under Division 40) in respect of Mining Lease.

Question 1

Is Company Y as head company eligible to claim deductions for decline in value under Division 40 of the Income Tax Assessment Act 1997 (ITAA 1997) for a mining lease in light of section 40-77 of the Income Tax (Transitional Provisions) Act 1997 [IT(TP)A 1997]?

Answer

Yes

This ruling applies for the following periods:

The scheme commences on:

Relevant facts and circumstances

Company Y is the head company of an income tax consolidated group of which Company X is a subsidiary member.

Company X acquired 100% of Company Z. As a result, Company Z joined the consolidated group.

Company Z held exploration rights that it acquired before and after 1 July 2001.

Before its acquisition by Company X and after 1 July 2001, Company Z was granted a Mining Lease over parts of the respective areas previously covered by the exploration rights that Company Z acquired before and after 1 July 2001. The part areas previously covered by the exploration rights that Company Z acquired before and after 1 July 2001 were incorporated in the area subject to the Mining Lease.

State mining legislation operated such that the exploration rights that Company Z acquired before and after 1 July 2001 continued as exploration rights, albeit over reduced areas.

Company Z continues to be the registered holder of the exploration rights acquired before 1 July 2001 as reduced.

Relevant legislative provisions

Section 40-25 of the Income Tax Assessment Act 1997 (ITAA 1997)

Section 40-30 of the ITAA 1997

Subsection 40-77(1) of the Income Tax (Transitional Provisions) Act 1997 [IT(TP)A 1997]

Subsection 40-77(1B) of the IT(TP)A 1997

Section 702-1 of the IT(TP)A 1997

Reasons for decision

The exploration rights acquired before 1 July 2001 are mining, quarrying or prospecting rights that Company Z started to hold before 1 July 2001. Division 40 does not apply to the rights: subsection 40-77(1) of the IT(TP)A 1997.

The exploration rights acquired after 1 July 2001 constitute depreciating assets (mining, quarrying or prospecting rights) that are subject to Division 40 of the ITAA 1997 capital allowances treatment as Company Z started to hold the rights after 1 July 2001.

Capital allowances

Division 40 of the ITAA 1997 allows a deduction for the decline in value of a depreciating asset used for a taxable purpose that is held for any time during the year. A 'taxable purpose' as defined in subsection 40-25(7) of the ITAA 1997 is:

(a) the *purpose of producing assessable income; or

(b) the purpose of *exploration or prospecting; or
…

A 'depreciating asset' is defined in subsection 40-30(1) of the ITAA 1997 as:

… an asset that has a limited *effective life and can reasonably be expected to decline in value over the time it is used, except:

(a) land; or

(b) an item of *trading stock; or

(c) an intangible asset, unless it is mentioned in subsection (2).

Relevantly, subsection 40-30(2) of the ITAA 1997 states that:

These intangible assets are depreciating assets if they are not *trading stock:

(a) *mining, quarrying or prospecting rights;

(b) *mining, quarrying or prospecting information;

…

A mining, quarrying or prospecting right is defined in section 995-1 of the ITAA 1997 as:

…

(b) a lease of land that allows the lessee to mine, quarry or prospect for minerals, petroleum or quarry materials on the land; or

…

Therefore, a mining lease that allows a lessee to mine, quarry or prospect for minerals constitutes a 'depreciating asset' for the purposes of section 40-30 of the ITAA 1997, in accordance with paragraph 40-30(2)(a) of the ITAA 1997.

However, Division 40 of the ITAA 1997 is subject to transitional rules which provide that the Division does not apply to a mining, quarrying or prospecting right that 'you started to hold' before 1 July 2001: subsection 40-77(1) of the IT(TP)A 1997. In certain circumstances, subsection 40-77(1B) of the IT(TP)A 1997 operates to preserve pre-1 July 2001 treatment.

Subsection 40-77 of the IT(TP)A 1997

Subsections 40-77(1) and (1B) of the IT(TP)A 1997 provide that:

(1) Division 40 of the ITAA 1997 does not apply to a mining, quarrying or prospecting right that a person started to hold before 1 July 2001.

…

(1B) Subsection (1) applies to a mining, quarrying or prospecting right (the new right) that you start to hold on or after 1 July 2001 as if you had started to hold the new right before that day if:

(a) The person started to hold the old right before 1 July 2001; and

(b) The old right ends on or after that day; and

(c) The new and old right relate to the same area, or any difference in area is not significant.
…

Subsection 40-77(1) of the IT(TP)A 1997 applies in respect of a mining, quarrying or prospecting right that a taxpayer started to hold before 1 July 2001. Where the requirements of subsection 40-77(1B) of the IT(TP)A 1997 are satisfied, subsection 40-77(1) of the IT(TP)A 1997 applies to a taxpayer that started to hold a mining, quarrying or prospecting right on or after 1 July 2001 as if they started to hold the right before 1 July 2001.

The Explanatory Memorandum to the Taxation Laws Amendment Bill (No.4) 2003 provides the following guidance on section 40-77 of the IT(TP)A 1997:

…

2.47 The IT(TP) Act 1997 provides for mining, quarrying and prospecting rights that the taxpayer held before 1 July 2001 to remain subject to the CGT provisions contained in the ITAA 1997 instead of being subject to the balancing adjustment rules of the uniform capital allowance system. The uniform capital allowance system does not apply to a mining, quarrying or prospecting right that the taxpayer held before 1 July 2001. Costs incurred on those rights on or after 1 July 2001 can only be used in the calculation of the taxpayer's capital gain or loss under the CGT provisions.
…

2.49 In addition, if a taxpayer acquired a mining, quarrying or prospecting right before 1 July 2001 and that right ends on or after 1 July 2001 and is replaced by a new right that relates to the same area (or the difference in area is insignificant), then Division 40 of the ITAA 1997 will continue not to apply and the new right remains subject to the CGT provisions contained in the ITAA 1997 instead of being subject to the balancing adjustment rules of the uniform capital allowance system.
…

Application of paragraph 40-77(1B)(a) of the IT(TP)A 1997

The Mining Lease was granted to Company Z after 1 July 2001. In considering the application of paragraph 40-77(1B)(a) of the IT(TP)A 1997, the relevant pre-1 July 2001 exploration rights are the 'other rights' that Company Z started to hold before 1 July 2001.

Application of paragraph 40-77(1B)(b) of the IT(TP)A 1997

Paragraph 40-77(1B)(b) requires that '… the other right ends on or after that day …', being on or after 1 July 2001.

The effect of State mining legislation was that the relevant pre-1 July 2001 exploration rights continued albeit for the remaining area which was not subject to the Mining Lease.

In Mitsui & Co (Australia) Ltd v Commissioner of Taxation [2011] FCA 1423, the Siopis J stated at paragraph 83:

The fact that the definition places primacy on the title as constituting the "petroleum prospecting or mining right" rather than the entitlement arising under the title is, in my view, consistent with the Commissioner's contention that Parliament intended to define that "right" by reference to the title representing the undivided bundle of rights or entitlements conferred on the holder of such a title, rather than to each individual right or entitlement to carry out an authorised mining or exploration activity arising under that title, as contended for by Mitsui.

That is, a right refers to the 'mining title' which confers an undivided right to explore rather than to the individual entitlements/rights arising under the title which allows for exploration in different areas covered by the mining right.

When the Mining Lease was granted after 1 July 2001, the area covered by the relevant pre-1 July 2001 exploration rights was reduced pursuant to State mining legislation, by the area incorporated in the Mining Lease. The reduction in area might be said to have resulted in the loss of some of the individual entitlements conferred by the relevant pre-1 July 2001 exploration rights in relation to the area over which the Mining Lease was granted. However, the relevant pre-1 July 2001 exploration rights did not come to an end. Company Z continues to be the registered holder of these rights, notwithstanding the areas to which the rights relate to were truncated.

Accordingly, the requirement of paragraph 40-77(1B)(b) of the IT(TP)A 1997 is not satisfied as the relevant pre-1 July 2001 exploration rights did not (and have not) come to an end under State mining legislation, nor for income tax purposes by operation of Australian income tax legislation.

Although one of the conjunctive requirements in subsection 40-77(1B) of the IT(TP)A 1997 is not satisfied being that of paragraph 40-77(1B)(b) of the IT(TP)A 1997, for completeness we set out our analysis of paragraph 40-77(1B)(c) of the IT(TP)A 1997.

Application of paragraph 40-77(1B)(c) of the IT(TP)A 1997

Paragraph 40-77(1B)(c) of the IT(TP)A 1997 requires that the relevant 'new right' (the Mining Lease) and the 'other right' (the relevant pre-1 July 2001 exploration rights) relate to the same area, or any difference in area is not significant.

The Commissioner accepts the areas subject to the Mining Lease are not the 'same' as the areas which was previously subject to the relevant pre-1 July 2001 exploration rights, nor are the measurements (as in square metres or hectares) of those respective areas the same.

The term 'significant' is defined in the Concise Oxford dictionary as:

…noteworthy, of considerable amount or importance…

The decision of the NSW Court of Appeal in Fallas v Mourlas [2006] NSWCA 32 is authority for the view that the word 'significant' where it appears in legislation

… means more than trivial…

Franki J considered the meaning of 'significant' in Trade Practices Commission v TNT Management Pty Ltd (1983) 67 FLR 198 and noted that

... it is clear that it must mean, perhaps except in extraordinary circumstances, at least 'not important' or 'not insignificant'.

Foster J in ACI Pet Operations and Collector of Customs (1990) 26 FCR 531 also stated at 551-552 that the word 'significant':

… has acquired a number of shades of meaning in common parlance. For instance, it is not infrequently used as a substitute for 'substantial'. It is, however, clearly important that it be given as precise a meaning as possible in this legislative provision, as its use imports a major guiding consideration into the determination by the Comptroller of whether goods serve 'similar functions'. I turn, therefore, to the dictionaries for guidance and find that the Oxford English Dictionary (2nd ed) defines the word (where relevant) as 'full meaning or import; important, notable; and having or conveying a meaning', and that the Macquarie Dictionary defines it as 'important; of consequence; expressing a meaning; indicative'.

I derive assistance also from considering that the word is the opposite of 'insignificant' which word is defined in the Macquarie Dictionary as meaning 'unimportant, trifling or petty' and as 'too small to be important'. Looked at from this point of view 'significant' may be regarded as meaning 'not unimportant or trivial' or as 'sufficiently large to be important'.

One could no doubt multiply meanings by recourse to other dictionaries. One thing is very clear, namely that there is necessarily a fair degree of value-judgment involved in attributing significance to something. Significance must also depend upon context. The very use of the term must frequently involve the subsidiary question 'significant for what?.

The Mining Lease was granted over parts of the respective areas previously covered by the exploration rights that Company Z acquired before and after 1 July 2001.

The difference between the part areas previously covered by the pre-1 July 2001 exploration rights and the area covered by the Mining Lease is 'significant' in accordance with the word's ordinary meaning, and in particular, the difference is more than 'not important' or 'not insignificant'. Therefore, paragraph 40-77(1B)(c) of the IT(TP)A 1997 was not satisfied in respect of the grant of the Mining Lease after 1 July 2001.

Accordingly, section 40-77 of the IT(TP)A 1997 did not apply to the Mining Lease when it was granted. Division 40 of the ITAA 1997 applied the Mining Lease for Company Z.

Section 702-1 of the IT(TP)A 1997

Ordinarily, section 701-10 of the ITAA 1997 and subsection 701-55(2) of the ITAA 1997 would operate such Company Y as the head company of the consolidated group was treated as acquiring all the depreciating assets of Company Z for their respective tax cost setting amounts worked out at the time when Company Z joined the group.

However, section 702-1 of the IT(TP)A 1997 provides that where just before becoming a subsidiary member of a consolidated group, section 40-77 of the IT(TP)A 1997 applies to a mining, quarrying or prospecting right the entity holds, section 40-77 of the IT(TP)A 1997 will continue to apply to that right for the head company (i.e. Division 40 continues not to apply to the mining, quarrying or prospecting right).

As noted above, section 40-77 of the IT(TP)A 1997 did not apply to the Mining Lease when it was granted after 1 July 2001. Therefore, section 702-1 of the IT(TP)A 1997 did not apply in respect of the Mining Lease when Company Z subsequently joined the Company Y consolidated group.

Accordingly, Division 40 applied to the Mining Lease for the Company Y consolidated group when Company Z became a subsidiary member of the group.

Conclusion

Section 40-77 of the IT(TP)A 1997 did not operate to prevent Division 40 of the ITAA 1997 applying to the Mining Lease when it was granted after 1 July 2001. Accordingly, section 702-1 of the IT(TP)A 1997 did not apply to the Mining Lease when the Company Y consolidated group subsequently acquired Company Z. Therefore, where the other requirements in Division 40 are satisfied, Company Y is entitled to decline in value deductions (as worked out under Division 40) in respect of the Mining Lease. The tax cost for the Mining Lease set at the joining time becomes the first element of cost of the Mining Lease for which a decline in value deduction may subsequently be worked out by Company Y as head company.

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