Edited version of your written advice

Authorisation Number: 1012971953345

Date of advice: 3 March 2016

Ruling

Subject: Deductibility of the structure of a house (including its fixtures and fittings)

Question

Is it possible to claim any depreciation on the structure of a house (and/or any of its fixtures and fittings) situated on a farm used for primary production?

Answer

Yes, to the extent of limited fixtures and fittings.

The periods to which this ruling applies

1 July 2014 to 30 June 2015

Date in which the scheme commences

1 July 2014

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

In the XXXX income tax year, the Taxpayer purchased a farm (located in a relatively remote regional area) for the purposes of conducting agricultural operations. The farm has a good house on the property. The Taxpayer intends to have staff reside in the house and use its facilities.

The house may be rented to the staff.

The house was constructed in the mid-19XXs, and it was built by the previous owners to live in/use as a private residence.

Relevant legislative provisions

Income Tax Assessment Act 1936

• Division 3

• (Former) Subsection 54(1)

Income Tax Assessment Act 1997

• Division 40

• Subsection 40-25(1)

• Subsection 40-25(7)

• Subsection 40-30(1)

• Subsection 40-30(2)

• Subsection 40-30(3)

• Section 40-40

• Subsection 40-45(2)

• Division 43

• Division 45

• Subsection 45-40(1)

• Subsection 45-40(2)

Reasons for decision

Question

Is it possible to claim any depreciation on the structure of a house (and/or any of its fixtures and fittings) situated on a farm used for primary production?

Summary

Depreciation cannot be claimed on the structure of the house itself. However, if the house is rented to staff working on the farm, depreciation may be claimed on the written-down value (as at the time the Taxpayer purchased the farm) of certain fixtures and fittings over the remainder of the respective effective lives of those items.

Detailed reasoning

Deductions for capital expenditure may be available under either:

• Division 40 of the Income Tax Assessment Act 1997 (ITAA 1997) - for depreciating assets, or

• Division 43 of the ITAA 1997 (for capital works).

Structure of the house on the farm

Division 43 of the ITAA 1997 provides a deduction for construction expenditure on capital works that are buildings and to extensions, alterations or improvements to those buildings if the construction of the capital works commenced in Australia after 21 August 1979 and the capital works are used to produce assessable income.

As the house on the farm was built before 21 August 1979, Division 43 of the ITAA 1997 would not apply to the structural cost of the house.

In terms of Division 40 of the ITAA 1997, a deduction is generally available under subsection 40-25(1) of the ITAA 1997 for the decline in value of a depreciating asset which is held by a taxpayer for any time during the income year. The deduction is only available to the extent of the use of the asset for 'taxable purposes' which, according to subsection 40-25(7) of the ITAA 1997, includes a purpose of producing assessable income.

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 for land; an item of trading stock; or an intangible asset (except for those mentioned in subsection 40-30(2) of the ITAA 1997).

A particular type of depreciating asset is 'plant'. The Explanatory Memorandum to the New Business Tax System (Capital Allowances) Act 2001 No. 76, 2001 says that a 'depreciating asset' includes what was covered by the concept of 'plant' under former Division 42 of the ITAA 1997 (for example, machinery and equipment) as well as other assets that are wasting in nature (that is, an item with a limited effective life that loses value over that life).

The meaning of 'plant' is outlined under subsection 45-40(1) of the ITAA 1997, as stipulated below.

Plant includes:

(a) articles, machinery, tools and rolling stock; and

(b) animals used as beasts of burden or working beasts in a ^*business, other than a ^*primary production business; and

(c) fences, dams and other structural improvements, other than those used for domestic or residential purposes, on land that is used for agricultural or pastoral operations; and

(d) structural improvements, other than a ^*forestry road or structural improvements used for domestic or residential purposes, on land used in a business involving:

(i) planting or tending trees in a plantation or forest that are intended to be felled; or

(ii) felling trees in a plantation or forest; or

(iii) transporting trees, or parts of trees, that you felled in a plantation or forest to the place where they are first to be milled or processed, or from which they are to be transported to the place where they are first to be milled or processed; and

(e) structural improvements, other than those used for domestic or residential purposes, that are used wholly for operations (carried out in the course of a business) relating directly to:

(i) taking or culturing pearls or pearl shell; or

(ii) taking or catching trochus, bêche-de-mer or green snails; and that are situated at or near a port or harbour from which the business is conducted; and

(f) structural improvements that are excluded from paragraph (c), (d) or (e) because they are used for domestic or residential purposes if they are provided for the accommodation of employees, tenants or sharefarmers who are engaged in or in connection with the activities referred to in that paragraph.

The Macquarie Dictionary defines agriculture as the cultivation of land, including crop-raising, forestry, stock-raising etc which, in the present circumstances, would incorporate operations associated with the Taxpayer's primary production business.

As the house on the farm will be used in connection with agricultural operations and will be provided as accommodation for an employee/(s) who will be engaged in agriculture, paragraph 45-40(1)(f) of the ITAA 1997 applies to include the house (the structure itself) on the farm as 'plant', which constitutes a depreciating asset under Division 40 of the ITAA 1997.

However, according to subsection 40-30(3) of the ITAA 1997 and paragraph 40-45(2)(a) of the ITAA 1997, Division 40 of the ITAA 1997 does not apply to capital works (i.e. the house on the farm) for which a deduction can be claimed under Division 43 of the ITAA 1997, or for which a deduction could be claimed under that Division but for expenditure being incurred, or capital works being started, before a particular day.

In other words, capital allowances under Division 40 of the ITAA 1997 are not available if deductions under Division 43 of the ITAA 1997 would apply, regardless of when capital works began. As stated in paragraph 1.21 of the (revised) Explanatory Memorandum to the New Business Tax System (Capital Allowances) Bill 2001:

Expenditure incurred on capital works to which Division 43 of the ITAA 1997 applies is also excluded from the uniform capital allowance system. Those buildings and structural improvements which would be deductible only under Division 43 but which are ineligible because expenditure was incurred or work was started too early to qualify for a deduction will also be excluded from the uniform capital allowance system.

A deduction for capital works could have been claimed by the Taxpayer under Division 43 of the ITAA 1997 were it not for the fact that construction on the house on the farm commenced before 21 August 1979. Pursuant to subsection 40-30(3) of the ITAA 1997 and paragraph 40-45(2)(a) of the ITAA 1997, Division 40 of the ITAA 1997 does not apply to capital works for which a deduction could be claimed under Division 43 (regardless of when capital works began).

On the basis of these provisions, the structure of the house itself on the farm would not be depreciable under Division 40 of the ITAA 1997, nor would the structural cost of the house be deductible under Division 43 of the ITAA 1997.

Fixtures and fittings inside the house on the farm

In the event the Taxpayer decides not to rent the house to staff working on the farm, a deduction would not be available under Division 40 of the ITAA 1997 for the fixtures and fittings inside the house as those fixtures and fittings would not be used for 'taxable purposes' (which, according to subsection 40-25(7) of the ITAA 1997, includes a purpose of producing assessable income).

If the Taxpayer does decide to rent the house to staff working on the farm, then Division 40 of the ITAA 1997 may apply to the decline in value of certain fixtures and fittings inside the house as there would be a taxable purpose (being the derivation of rental income).

As mentioned above, a particular type of 'depreciating asset' - an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used - is 'plant'.

Subsection 45-40(2) of the ITAA 1997 extends the meaning of 'plant' to include plumbing fixtures and fittings (including wall and floor tiles) provided by an entity mainly for employees (or their children) in a business carried on by the entity for the purpose of producing assessable income.

With specific regard to plumbing fixtures and fittings in the house situated on the farm, as these fixtures and fittings fall within the definition of 'plant' and are therefore a depreciating asset under Division 40 of the ITAA 1997, the Taxpayer would be entitled to claim a depreciation deduction in this respect.

In terms of all other fixtures and fittings inside the house situated on the Taxpayer's farm, paragraph 45-40(1)(a) of the ITAA 1997 extends the meaning of 'plant' for depreciation purposes beyond its ordinary meaning to include 'articles'.

The word 'articles' is not defined in the ITAA 1997. The Shorter Oxford Dictionary describes an 'article' as a particular material thing, a commodity, or a piece of goods or property. The Commissioner has previously argued that such a broad definition should be restricted. For example, in Quarries Ltd v FC of T 12 ATD 356; (1961) 106 CLR 310 (Quarries Ltd), he contended that the word 'articles' within (the former) subsection 54(1) of the Income Tax Assessment Act 1936 (ITAA 1936) - which has been replaced by subsection 40-25(1) of the ITAA 1997 - should be given a restricted meaning because of its association with the word 'plant'. Taylor J rejected the contention, stating:

As I understand the proposition, the operation of the section should be confined to 'articles' which share some undefined common quality with 'plant'... the common quality is to be sought not inherently but in the use which may, and is, in fact, made of the 'articles'. That is to say that all 'plant' and all 'articles' are within the section if they may fairly be said to be used for the purpose of producing assessable income.

In Faichney v FC of T 72 ATC 4245; (1972) 129 CLR 38, a taxpayer claimed depreciation in respect of carpet, curtains, bookshelves and a desk in a home office. The Commissioner argued that the carpet and curtains were not 'articles' within the meaning of (the former) subsection 54(1) of the ITAA 1936 on the grounds that the provision only described those articles appropriate to income-producing activities. The Commissioner conceded that carpets and curtains, if situated in business premises, were articles, however it was argued that if situated in the taxpayer's home, they are not. Mason J rejected the Commissioner's contentions and said that 'articles' would, according to its normal and ordinary meaning, include carpet, curtains, desks and bookshelves. This principle was affirmed in Imperial Chemicals Industries of Australia and New Zealand Ltd v Federal Commissioner of Taxation (1970) 120 CLR 396; 1 ATR 450.

According to the above principles - which are encapsulated in Taxation Ruling TR 2004/16 ('Income tax: plant in residential rental properties') - an item that has a character or nature such that it might not ordinarily be considered as 'plant', may be an 'article' that is depreciable if it is an item used in the context of producing assessable income. While an item cannot be an 'article' if it is a structure erected or built on or into land, or if it forms part of the premises, an item may be an 'article' if it is attached to the premises, such as carpet or curtains.

As other (non-plumbing) fixtures and fittings in the house situated on the farm in the present circumstances are therefore considered to be 'articles', such fixtures and fittings also fall within the definition of 'plant' as defined in section 45-40 of the ITAA 1997. As such, these fixtures and fittings would constitute a 'depreciating asset' as defined in subsection 40-30(1) of the ITAA 1997.

However, if fixtures and fittings in the house have not been updated since the house was built in the mid-19XXs, then the associated effective lives of these items would have ended by now and therefore would have no depreciable value remaining under Division 40 of the ITAA 1997. Where the previous owners (from whom the Taxpayer purchased the farm) have more recently updated certain fixtures and fittings, and the respective effective lives of those items have not yet ended, then the Taxpayer can claim a deduction on the written-down value (as at the time the Taxpayer purchased the farm) of certain fixtures and fittings over the remainder of the respective effective lives of those items. That is, the written-down value would constitute the original cost of the fixture/fitting reduced by the non-deductible amount of depreciation accumulated over the years in which the house was used as a private residence by the previous owners. In circumstances where the Taxpayer has upgraded certain fixtures and fittings since purchasing the farm in the 20XX income year, such fixtures/fittings would be depreciable under Division 40 of the ITAA 1997 as 'plant'.

Hence, for those fixtures and fittings in the house on the farm that have an effective life remaining and a written-down value as at the time the Taxpayer purchased the farm, the Taxpayer would be entitled to claim a deduction for the depreciation of these fixtures and fittings under Division 40 of the ITAA 1997.

Further issues for you to consider

We have limited our ruling to the question raised in your application. However, there may be related issues that you should consider, as outlined below.

In the event that staff working on the farm will reside in, and use the facilities of, the house situated on the farm, these employees may be in receipt of a 'housing fringe benefit' pursuant to section 25 of the Fringe Benefits Tax Assessment Act 1986 (FBTAA). This is because there may be a benefit (in the form of accommodation) provided by the Taxpayer (employer) to its employees, where such a benefit may be in respect of the relevant employee's employment (as there may potentially be a sufficient or material connection between the benefit and the employment).

The house on the farm is located in an area that has been specifically identified by the Australian Taxation Office (ATO) as a 'remote area' for fringe benefits tax (FBT) purposes (https://www.ato.gov.au/General/Fringe-benefits-tax-%28FBT%29/In-detail/Exemptions-and-concessions/FBT---remote-areas/). As such, depending on whether the amount of rent paid by the staff (who reside in the house) to the Taxpayer is at or below market value, a 'remote area housing benefit' (which is exempt from FBT pursuant to subsection 58ZC(1) of the FBTAA) may or may not apply.

Depending on the relevant circumstances, in the event it is determined that the Taxpayer is liable to pay FBT on any accommodation benefit provided to its staff, the taxable value of such fringe benefits would be reduced by the amount of rent paid by the staff who reside in the house.

You may apply for another ruling on this or any other matter.

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