Edited version of your written advice

Authorisation Number: 1012811328742

Ruling

Subject: School bus funding - income or capital

Question 1

Is the funding provided by a state government department assessable as ordinary income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No

Question 2

Is the Funding assessable as a bounty or subsidy under section 15-10 of the ITAA 1997?

Answer

Yes

Question 3

Are the school bus grants derived by the Company in the income years in which its subsidiaries progressively satisfy the terms of the contracts under which grants are provided?

Answer

Yes

This ruling applies for the following periods:

1 July 2010 to 30 June 2014

The scheme commences on:

July 2010

Relevant facts and circumstances

The applicant entity is the head company of a tax consolidated group

• A state government provides grants to school bus operators who upgrade their buses to models with additional safety features under the a Scheme and has done so since the 2010 income year;

• The school bus operators provide bus services to the general public;

• The school bus operators have applied for and received grants from the government since the 2010 income year;

The guideline requirements are:

• the school bus operators purchase school buses that have additional safety features to transport children to and from school on specified routes; and provide grants to the school bus operators following their purchase of such buses

• Grant funding is determined with reference to the cost of the bus acquired. The grants assist the school bus operators pay for the cost of acquiring the required upgraded buses under the Scheme. The grants provided do not completely cover the total cost of the bus acquired.

• Payments are progressively made under an agreement to the school bus operators over a number of income years subject to specified conditions being satisfied and are repayable in whole or part if relevant conditions are not satisfied, the bus is sold or services cease.

A clause in an Agreement provides that:

"the Operator acknowledges that:

Funding is available … where the Operator purchases the Upgraded School Bus outright with or without finance, or by way of a Financial Lease for use on the Nominated Service:…

the Upgraded School Bus funded is required to be used to provide the Nominated Service for the Economic Life of the Upgraded School Bus"

• The cost of each bus acquired by the school bus operators for which grant funding was subsequently provided under SBS was (approximately) $350,000.

• Grants are provided to the school bus operators under the agreement over a 10 year period, although the operators are required to provide relevant services for a period of 15 years.

• The Company's 2010 and later income tax returns have recognised the SBUS grants as forming part of its assessable income in the income year in which the grants are received.

• The Scheme Guidelines and Conditions state that funding will only be made available after the relevant government department checks that the replacement school bus complies with the required specifications, and after documentation such as proof of purchase, supplier's tax invoice, signed funding agreement and current comprehensive cover have been sited. If these requirements are satisfied funding is paid within 20 working days.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 15-10

Reasons for Decision

Question 1

A payment or other benefit received by a taxpayer is included in assessable income if:

• It is income according to ordinary concepts in terms of section 6-5, or

• If not ordinary income it may be included in your assessable income because it is caught under the general 'statutory income' provisions in section 6-10, as listed in section 10-5. Included in the list in section 10-5 are bounties and subsidies (section 15-10).

Ordinary Income
Section 6-5 states, in part, the following:

6-5(1) Your assessable income includes income according to ordinary concepts, which is called ordinary income.

The term 'ordinary income' is not defined in the ITAA 1997. Its meaning has evolved from case law, which has laid down certain established tests to determine whether receipts can be deemed as ordinary income.

In Scott v. Federal Commissioner of Taxation (1966) 117 CLR 514 Windeyer J stated:

Whether or not a particular receipt is income depends upon its quality in the hands of the recipient.

In GP International Pipecoaters Pty Ltd v. Federal Commissioner of Taxation (1990) 170 CLR 124; 90 ATC 4413; (1990) 21 ATR 1 the High Court stated at CLR 138, ATR 7; ATC 4420:

To determine whether a recipient is of an income or a capital nature, various factors may be relevant. Sometimes, the character of receipts will be revealed most clearly by their periodicity, regularity or recurrence, sometimes, by the character of a right or thing disposed of in exchange for the receipt, sometimes by the scope of the transaction, venture or business in or by reason of which money is received and by the recipient's purpose in engaging in the transaction, venture or business.

The High Court accepted the proposition that a gift or subsidy to replenish or augment the recipient's capital is capital in nature (and not income under ordinary concepts) because in such a case, the receipt is not a product or incident of the recipient's income producing activity (at 170 CLR 142; 90 ATC 4422; (1990) 21 ATR 10),

Ordinary income has generally been held to include three categories, namely, income from rendering personal services, income from property and income from carrying on a business.

Characteristics of 'income' that have evolved from case law include receipts that:

• are earned

• are expected

• are relied upon, and

• have an element of periodicity, recurrence or regularity.

ATO policy concerning government payments to industry is set out in Taxation Ruling TR 2006/3 Income tax: government payments to industry to assist entities (including individuals) to continue, commence or cease business. (TR 2006/3). This ruling provides the Commissioner's opinion on the way in which section 6-5, section and 15-10 apply to a government payment. In determining which of these provisions apply, it is essential to determine what the government payment is actually for. The question as to the nature and quality of any payment must be determined by reference to the agreement or the terms which created in the recipient the right to the government payment.

At paragraph 84, it provides that ordinary income generally falls within three categories:

• Income from providing personal services,

• Income from property, or

• Income from carrying on a business.

Application to your circumstances

The funding is paid by a state government to the Company in separate instalments according to the completion of certain conditions in the School Bus Upgrade Scheme Agreement.

The funding is not received as part of current business activities the purpose is to act as an incentive for operators to upgrade their school buses to models with additional safety features as specified by the state government.

As the funding is not income derived through the Company's ordinary business operations, it is not included in the entity's assessable income under section 6-5.

Question 2

Statutory Income - a Bounty or Subsidy

Section 6-10 states that your assessable income includes some amounts that are not 'ordinary income'. These amounts are 'statutory income'. Subsection 6-10(1) refers to provisions about assessable income. A summary list of these provisions is contained within section 10-5.

One of the statutory income provisions listed in section 10-5 is section 15-10, which deals with the treatment of bounties and subsidies.

Section 15-10 provides that:

Your assessable income includes a bounty or subsidy that:

(a) you receive in relation to carrying on a business; and

(b) is not assessable as ordinary income under section 6-5.

Bounty or subsidy

The term 'bounty' and 'subsidy' are not defined terms; therefore the ordinary meaning of these terms will be applied.

Taxation Ruling 2006/3 discusses the assessability of government payments to industry (GPI's) are payments by the government or entity chosen by the government to administer government funds.

Paragraphs 94-97 of TR 2006/3 provide further guidance on the meaning of bounties and subsidies in relation to GPIs:

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 a describing financial assistance given to assist business.

96. 'Grant' is defined to include 'that which is granted, as a privilege or right, a sum of money, as for a student's maintenance, or a tract of land'. A reference to 'bounty or subsidy' includes a grant that encourages business or trade and also a grant to address a detrimental effect on a business or trade.

97. Not all government grants are bounties or subsidies for the purposes of section 15-10. It is essential to determine that the grant is actually for. The question as to the nature and quality of any payment must be determined by reference to the agreement or the terms which created in the recipient the right to the government grant. Any factors used to calculate the amount of payment are of marginal, if any, assistance in determining what the payment is for.

In this case, the government department has provided funding to school bus operators who have upgraded their buses in accordance with certain requirements. It is considered that the funding is a GPI. The terms of the funding agreement support such an argument that the funding is to encourage, assist and foster the upgrading of school buses with additional safety features. It is considered that this funding falls within the definition of a bounty or subsidy.

In relation to carrying on a business

In determining the correct treatment of the payment it needs to be considered whether the bounty or subsidy has been received 'in relation to carrying on a business'.

Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production? (TR 97/11) provides the Commissioner's views on what constitutes 'the carrying on of a business'.

'In relation to'
A bounty or subsidy will be "in relation to" carrying on a business when there is a real connection between the payment and the business. The term "in relation to" includes within its scope payments that have a direct or indirect connection to the business. (Paragraph 100 of TR 2006/3)

'Carrying on a business' or 'commencement'

To be assessable under section 15-10 the bounty or subsidy must relate to the 'carrying on' of the business, not merely to the commencement or cessation of it. The Full Federal Court decision in First Provincial Building Society Ltd v FC of T (1995) 95 ATC 4145 (1995 30 ATR 207; (1995) 56 FCR 320 illustrates that the expression 'carrying on of the business' is limited to the activities of the business which are directed towards the gaining or producing of assessable income rather than merely to the business itself. (Paragraph 101 of TR 2006/3)

Government payments 'to commence or cease business' as opposed to 'in relation to carrying on a business' are not considered to be assessable as ordinary income under section 6-5 or as a bounty or subsidy under section 15-10.' (Paragraphs 103 and 128 of TR 2006/3)

To be considered assessable under section 15-10 the receipt must be in relation to the carrying on of a business.

Application to your circumstances

Taking into account the indicators in TR 97/11, as the extent of your activities it is clear that the Company carries on a business.

As you are carrying on the business any receipts in relation to the funding are on capital account and are assessed under section 15-10 as bounties or subsidies.

The payments will be more accurately classified as subsidies in the form of government payments (GPI's) to continue carrying on your business, and will be specifically paid to assist with both the operating and capital costs of your activities. The distinction being that they are paid because you are carrying on a business as opposed to being derived from the actual income earning activities undertaken by your business.

This distinction places them within section 15-10 (as opposed to section 6-5) which includes payments of a capital nature, in addition to payments of a revenue nature. The Explanatory Memorandum (EM) to Tax Law Improvement Bill 1997 states, in reference to section 15-10 '…any bounties or subsidies of a capital nature related to carrying on of business will be assessable under this provision'.

The funding received from the state government because school bus operators have purchased upgraded school buses does constitute an assessable bounty or subsidy.

Question 3

Derivation

TR 2006/3 also considers when a GPI is derived, and the timing of that derivation.

Paragraph 108 states that the 'term derive is defined in subsection 995-1 (1) as having a meaning affected by subsection 6-5(4). Under subsection 6-5(4) a recipient is taken to have derived an amount as soon as it is applied or dealt with in any way on their behalf or as they direct.' For the purposes of statutory income this conclusion is supported at subsection 6-10(3).

TR 2006/3 states in relation to conditional grants as follows:

Conditional grants

118. Conditional grants made by government that are convertible to a grant after a specified period or on attainment of milestones and subject to agreed performance criteria are not in themselves a GPI at the time they are received.

119. Where a recipient satisfies the terms of a conditional grant and is entitled to have the conditional grant converted to a grant, a GPI has been earned in the income year of conversion to the extent that the amount is no longer conditional or subject to repayment. Depending on the terms of the agreement, this might be at different points during the period. If the grant is assessable as ordinary income the amount is included as assessable income in the year in which it is derived (subsection 6-5(2)).

Application to your circumstances

The government department makes payments progressively under SBUS to the school bus operators over a number of income years subject to specified conditions being satisfied and are repayable in whole or part if relevant conditions are not satisfied, the bus is sold or services cease.

It is accepted that the funding received by the school bus operators are in the form of conditional grants and are assessable only when the grant becomes unconditional rather than when the payments are received.

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