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Authorisation Number: 1051294577424

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You cannot rely on this edited version in your tax affairs. You can only rely on the advice that we have given to you or to someone acting on your behalf.

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Date of advice: 19 October 2017

Ruling

Subject: Income Tax – Deductions for the business use of depreciating assets

Question 1

Is the Taxpayer entitled to obtain an immediate write off under section 328-180 of the Income Tax Assessment Act 1997 (ITAA 1997) for the cost of the pre-fabricated freestanding lightweight structure (the ‘cabana’) on the basis that its cost is less than $20,000 at the end of the income year ending 30 June 2018 and that it is only used for business purposes?

Answer

Yes

Question 2

Is the Taxpayer entitled to obtain an immediate write off under section 328-180 of the ITAA 1997 for the other depreciating assets identified as expenses incurred during the income year ending 30 June 2018 on the basis that each item costs less than $20,000 at the end of the income year ending 30 June 2018 and that they are only used for business purposes?

Answer

Yes

Question 3

Is the Taxpayer allowed to claim a deduction under section 8-1 of ITAA 1997 for the commercial rent paid to their spouse from the income years ending 30 June 2018 and onwards?

Answer

Yes

Question 4

Is the Taxpayer entitled to obtain an immediate write off under section 328-180 of the ITAA 1997 for the business use of the cost of a bike whose cost is less than $20,000 and that will be acquired during the income year ending 30 June 2018?

Answer

Yes

Question 5

Can the Taxpayer claim input tax credits under section 11-20 A New Tax System (Goods and Services Tax) Act 1999 (GST Act) for the acquisition of the cabana, the depreciating assets acquired during the income year ended 30 June 2018, and the bicycle to the extent that the assets are used for business purposes?

Answer

Yes

Question 6

On the basis that the rent is determined at arms’ length, is the Taxpayer’s spouse required to include the rent as assessable income from the time they start paying the rent for the use of the land on which the cabana is located?

Answer

Yes

Question 7

Can the Taxpayer’s spouse claim a deduction under section 8-1 of the ITAA 1997 for a reasonable portion of the following expenditure relating to the Property?

● Interest on the home loan;

● Home building insurance;

● Council rates;

● Electricity and water charges.

Answer

Yes

Question 8

Would the Taxpayer’s spouse be required to register for Goods and Services Tax (GST) if their only enterprise was receiving rent form the Taxpayer and the rent did not exceed the $75,000 per annum threshold?

Answer

No

Question 9

Will the Taxpayer and their spouse be able to obtain a partial exemption under section 118-190 of the ITAA 1997 and be deemed to have acquired the dwelling at the time of first income use by operation of the rules contained in section 118-192 of the ITAA 1997?

Answer

Yes

This ruling applies for the following periods:

Income year ending 30 June 2018

Income year ending 30 June 2019

The scheme commences on:

During the income year ended 30 June 2018

Relevant facts and circumstances

The property

The Taxpayer and their spouse own their family home (‘the Property’) as tenants in common being 1% and 99% respectively. The Property is a post-CGT asset.

From the day of acquisition, they have used the Property as their main residence and have not used the Property to produce assessable income.

The floor area of the Property used for residential purposes is 326 m².

The office

The Taxpayer is planning to install an office on a portion of the floor area of the Property. The office will comprise of a portable pre-fabricated freestanding lightweight structure (also known as the ‘cabana’).

The area occupied by the office will be XX m².

The office will be freestanding in the backyard, will not be affixed to the Property and will have its own entrance. Under council regulations, the office cannot be lived in or used as a dwelling.

The electricity will be connected to the cabana by running an extension cord from an existing external power point to the cabana. The water will be connected to the cabana by running hoses from the existing external hot and cold water taps at the Property to the cabana. The cabana will not be connected to the existing stormwater system, but rather, rainwater will simply run off the roof into a downpipe flowing into the garden. The cabana will sit over the existing sewer and wastewater will simply run into an existing connection to the sewer.

The cabana will be ready for use once installed.

Assets to be acquired during the income year ending 30 June 2018

The Taxpayer is planning to acquire the following:

● Portable pre-fabricated freestanding lightweight structure (cabana) to be located in the backyard of the property. The Taxpayer has advised that the total cost for this item, including design, improvement, delivery and installation) is less than $20,000.

● Other depreciating assets such as bookshelves and other furniture.

Business use

The Taxpayer is a practicing legal professional and member of the Chambers in a metropolitan city. As a member of the Chambers, they have exclusive use of a room in Chambers and is currently conducting a legal practice exclusively from this room in the Chambers.

The Taxpayer is registered for GST and their turnover is less than $2million per annum.

The Taxpayer will be a Small Business Entity for the year ending 30 June 2018.

During the income year ending 30 June 2018 the Taxpayer is planning to:

a) Install the office and the other depreciating assets and improvements at the Property, where they will immediately commence conducting their legal practice. The Taxpayer will work from the office at all times, except when they are in conference with clients in Chambers, appearing in court/tribunal or otherwise in the city for business purposes.

b) Pay the rent (market value) to their spouse as 99% owner;

c) Purchase a bicycle which will be the fastest and most efficient way to travel between the office and the Chambers;

d) Become an associate member of Chambers, which would require them to relinquish exclusive use of a room, but entitle them to non-exclusive use of available rooms in Chambers when required. They will use such rooms for conferences with clients and on days when you are required or otherwise in the city for business purposes.

Assumptions

The Taxpayer is a Small Business Entity pursuant to section 328-110 of the ITAA 1997 for the year ending 30 June 2018.

All the depreciating assets to be acquired during the income year ending 30 June 2018 will have a cost of less than $20,000.

The rent paid by the Taxpayer to their spouse will be determined at market value on an arm’s length basis. The Taxpayer will have exclusive use of the area occupied by the office and will be used 100% for business purposes.

The Taxpayer will have a 90% business use percentage for the bike.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 8-1

Income Tax Assessment Act 1997 section 40-30

Income Tax Assessment Act 1997 subsection 40-30(2)

Income Tax Assessment Act 1997 Division 43

Income Tax Assessment Act 1997 Division 115

Income Tax Assessment Act 1997 section 118-190

Income Tax Assessment Act 1997 paragraph 118-190(1)(c)

Income Tax Assessment Act 1997 section 118-192

Income Tax Assessment Act 1997 subsection 118-192(2)

Income Tax Assessment Act 1997 Subdivision 328-D

Income Tax Assessment Act 1997 section 328-110

Income Tax Assessment Act 1997 subsection 328-110(1)

Income Tax Assessment Act 1997 section 328-180

Income Tax Assessment Act 1997 subsection 328-180(1)

Income Tax Assessment Act 1997 subsection 328-180(4)

Income Tax Assessment Act 1997 subsection 328-205(3)

Income Tax (Transitional Provisions) Act 1997 subsection 328-180(4)

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

A New Tax System (Goods and Services Tax) Act 1999 subsection 11-15(2)

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

A New Tax System (Goods and Services Tax) Act 1999 Division 23

A New Tax System (Goods and Services Tax) Act 1999 section 23-5

A New Tax System (Goods and Services Tax) Act 1999 paragraph 23-15(1)(a)

Reasons for decision

Question 1

Summary

The Taxpayer can obtain an immediate write off under section 328-180 of the ITAA 1997 for the cabana on the basis its costs is less than $20,000 at the end of the income year ending 30 June 2018 and it is only used for business purposes.

Detailed reasoning

As a general rule you can claim deductions for expenses incurred in gaining or producing assessable income. The cost of acquiring capital assets is generally not deductible. You might be able to claim a deduction for the decline in value of the cost of capital assets used in gaining assessable income.

A small business entity that has elected to use the small business entity capital allowance rules in Subdivision 328-D of the ITAA 1997 for an income year may immediately write off the taxable use portion of the cost of an asset acquired for less than the threshold amount.

The taxable use of a depreciating asset is the portion of an asset’s use in an income year that is for the purposes of producing assessable income (subsection 328-205(3) of the ITAA 1997). The deduction for the assets that cost less than the threshold is claimed in the income year in which the asset was first or installed ready for use.

The threshold is $20,000 for assets first acquired between 12 May 2015 and 30 June 2018 (subsection 328-180(4) of the Income Tax (Transitional Provisions) Act 1997).

The conditions for the application of the immediate write off for assets costing less than $20,000 are set out in subsection 328-180(1) of the ITAA 1997, namely:

a) The taxpayer was a small business entity for the year in which the deduction is claimed and the year in which the taxpayer started to hold the asset;

b) The taxpayer choose to use the simplified depreciation system for small business entities;

c) The asset is a depreciating asset whose cost at the end of the income year in which was used or was installed ready for use for a taxable purpose is less than $20,000.

The Taxpayer advised that they are a small business entity for the purpose of subsection 328-110(1) of the ITAA 1997, and will chose to apply the small business entity capital allowance rules in Subdivision 328-D, and that the cabana will have a cost of less than $20,000.

A depreciating asset is an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used (section 40-30 of the ITAA 1997). Land, trading stock and intangible assets not listed in subsection 40-30(2) of the ITAA 1997 are not depreciating assets.

The Taxpayer’s planned structure will be a pre-manufactured, relocatable backyard cabana. The installation of this cabana does not require council approval and it can be removed at any time.

In Taxation Determination TD 97/24 the Commissioner provides guidance on when an accommodation unit is a chattel as opposed to a fixture. The cabana presents similarities with these units. Relevantly the determination clarifies that the mere intention that a unit remains in one place for a substantial period of time does not, of itself, preclude the unit being a chattel. Units that are designed or constructed as portable or movable are not structures in the nature of buildings. It can be concluded that the cabana is not a building or construction subject to Division 43 of the ITAA 1997.

It follows that a cabana is a depreciating asset and the costs identified as services will be included in the cost of this asset. Any costs relating to the installation of the cabana will form part of the cost of this depreciating asset. Provided that the cabana has a cost of less than $20,000 at the end of the income year ending 30 June 2018, the Taxpayer will be entitled to claim an immediate write off under section 328-180 of the ITAA 1997.

Question 2

Summary

The Taxpayer can claim an immediate write off under section 328-180 of the ITAA 1997 for the other depreciating assets identified as expenses incurred during the income year ending 30 June 2018 on the basis that each item costs less than $20,000 at the end of the income year ending 30 June 2018 and that they are only used for business purposes.

Detailed reasoning

As explained in Question 1, an immediate write off under section 328-180 is available for a Taxpayer that is a Small Business Entity, which has adopted the simplified depreciation system and the depreciating asset has a cost of less than $20,000.

To determine whether the Taxpayer is entitled to claim a deduction for the depreciating assets consideration has to be given as to whether those assets are single depreciating assets under section 40-30 of the ITAA 1997, or if those assets are composite items forming part of the cabana.

This enquiry is relevant in determining the cost of each asset.

Taxation Ruling TR 2017/D1 provides guidance in determining whether a composite asset is a single depreciating assets or each component represents a separate depreciating asset.

Specifically, paragraph 4 of TR 2017/D1 sates that:

A ‘composite item’ is an item that is made up of a number of components that are capable of separate existence. Whether a particular composite item is itself a depreciating asset or whether one or more of its components are separate depreciating assets is a question of fact and degree to be determined in the circumstances of the particular case.

The ruling provides a list of principles to be taken into account when determining whether a composite item is capable of being separately identified or recognised as having commercial and economic value. These principles are:

● 'Identifiable': A depreciating asset will tend to be the item that performs a separate identifiable function, having regard to the purpose or function it serves in its business context;

● 'Use': A depreciating asset will tend to be an item that performs a discrete function;

● 'Degree of integration': A depreciating asset will tend to be the composite item where there is a high degree of physical integration of the components;

● ‘Effect of attachment’: The item, when attached to another asset having its own independent function, varies the performance of that asset;

● ‘System’: A depreciating asset will tend to be the multiple components that are purchased as a system to function together as a whole and which are necessarily connected in their operation.

Based on the above principles, the assets acquired by the Taxpayer are single identifiable assets that have no degree of integration and cannot be considered as part of cabana.

It follows that none of the above items can be regarded as composite asset. In addition, all the items are within the definition of depreciating asset. On the basis that each asset cost less than $20,000 at the end of 30 June 2018 (being the first year the asset was used or ready for use), the Taxpayer will be entitled to claim an immediate deduction for the cost of each asset under section 328-180 of the ITAA 1997.

Question 3

Summary

The rent paid will be an allowable deduction under section 8-1 of the ITAA 1997 as it will be incurred in producing assessable income. The rent will be paid for the use of the space where the cabana will be located and will represent the main place of business of the Taxpayer.

Detailed reasoning

Rent is deductible if the expense is incurred in producing assessable income. This is the case when the rent is paid for a taxpayer’s place of business. The Taxpayer is entitled to a deduction for the rent if it is concluded that the cabana is regarded as their main place of business.

Taxation Ruling IT 2673 provides guidance on this area, and paragraph 11 states that:

Whether a dwelling, or part of it, has the character of a place of business is a question of fact that turns on the particular circumstances of each case but the broad test to be applied is whether a particular part of the dwelling:

(a) is set aside exclusively as a place of business;

(b) is clearly identifiable as a place of business; and

(c) is not readily suitable or adaptable for use for private or domestic purposes in association with the dwelling generally.

Based on the information provided, the Taxpayer intends to pay rent for the use of an area of the Property where they will install a cabana to run their legal practice. The cabana will be used as office, and will become their main place of business. The cabana will replace the existing office they have at the Chambers. Therefore, the office installed in the backyard of the Property is within the definition of place of business as specified in IT 2673.

Taxation Ruling IT 2167 discusses the Commissioner’s views on whether rent from a residential property is assessable income. There are situations where payments that are described as rent are not assessable income. This is particularly the case where the arrangement is not conducted at arms’ length.

In Case R16 84 ATC 179; 27 CTBR (NS) Case 67 the Board of Review held that one tenant in common can lease premises from their co-tenant in common (so as to have exclusive possession) and be liable to pay the amount reserved by the lease, and this amount is assessable income in the hands of the recipient. In such circumstances, the amount of rent being paid must be equal to that of a fully arm’s length transaction.

Drawing from the general principles outlined above, the Taxpayer can claim a deduction under section 8-1 of the ITAA 1997 for the rent attributable to the area relating to where the cabana will be installed provided that:

● The amount of rent has been determined on full arm’s length terms;

● The cabana containing the office is only used for business purposes.

● The Taxpayer will have exclusive possession of the area.

Question 4

Summary

An immediate deduction can be claimed for the cost of the bicycle for the year ending 30 June 2018 under subsection 328-180(1) of the ITAA 1997 for the business use proportion of the bicycle, provided that the bicycle has a cost of less than $20,000 at the end of the income year ending 30 June 2018.

Detailed reasoning

A bicycle meets the definition of depreciating asset within section 40-30 of the ITAA 1997 as it has a limited effective life and can reasonably be expected to decline in value over time.

The conditions for the application of the immediate write off for assets costing less than $20,000 are set out in subsection 328-180(1) of the ITAA 1997, namely:

a) The taxpayer was a small business entity for the year in which the deduction is claimed and the year in which the taxpayer started to hold the asset;

b) The taxpayer chooses to use the simplified depreciation system for small business entities;

c) The asset is a depreciating asset whose cost at the end of the income year in which was used or was installed ready for use, for a taxable purpose is less than $20,000.

As the Taxpayer is a small business entity for the income year ending 30 June 2018, and has chosen the use of the simplified depreciation system, and that the bicycle has a cost of less than $20,000 at the end of the income year ended 30 June 2018, the Taxpayer will be entitled to claim the business use percentage of the bicycle as an immediate write off for the income year ending 30 June 2018.

Question 5

Summary

The Taxpayer can claim input tax credits for the acquisition of the cabana, depreciating assets and bicycle under section 11-20 of the GST Act to the extent that the input tax credits relate to a creditable acquisition. The bicycle is the only depreciating asset with some private use. The Taxpayer will not be entitled to claim input tax credits for this private portion.

Detailed reasoning

An input tax credit is an entitlement to the reimbursement of the GST paid on an acquisition. Under section 11-20 of the GST Act you are entitled to the input tax credits for any creditable acquisitions you make. A creditable acquisition is defined under section 11-5 of the GST Act and requires the following four elements:

a) The acquisition of anything solely or partly for a creditable purpose;

b) The supply is a taxable supply;

c) The recipient of the supply provides or is liable to provide consideration for the supply; and

d) The recipient of the supply is registered or required to be registered for GST.

The Taxpayer intends acquiring several depreciating assets including a bicycle. All the depreciating assets other than the bicycle will have no private use.

Pursuant to subsection 11-15(2) of the GST Act, input tax credits cannot be claimed for an acquisition that relates to either an input taxed supply or is of a private or domestic nature.

The Taxpayer is entitled to claim input tax credits for the cabana and the other depreciating assets as these acquisitions are within the definition of creditable acquisitions for the following reasons:

a) The acquisitions are made in the course of carrying on the enterprise represented by the legal practice; hence the creditable purpose requirement is satisfied. The acquisitions are neither for a private purpose (with the exception of the 10% private use of the bicycle) or for input taxed supplies.

b) Only the depreciating assets subject to GST will be regarded as taxable supplies. The Taxpayer will be entitled to input tax credits for those depreciating assets that were taxable supplies, i.e. you paid GST on it.

c) The Taxpayer will provide monetary consideration for all the supplies.

d) The Taxpayer is registered for GST.

In relation to the input tax credits attributable to the acquisition of the bicycle, the Taxpayer will be entitled to claim only the business proportion of the GST credits. On the basis that the Taxpayer will have a 90% business use of the bicycle, the Taxpayer will be able to claim 90% of the input tax credits relating to the acquisition of the bicycle.

Question 6

Summary

The rent received from the Taxpayer for the land on which the cabana is situated will have to be included in the Taxpayer’s spouse assessable income pursuant to section 6-5 of the ITAA 1997 in the income year in which it is paid to them.

Detailed reasoning

For the same reasons as described in Question 3, the spouse will be assessed on the rent provided that it has been determined on an arm’s length basis and is reflective of the market value rent for the use of the land.

Question 7

Summary

The Taxpayer’s spouse will be entitled to claim a deduction for occupancy costs for a percentage equal to the floor area of the office. Electricity and water charges (also classified as running costs) can be deducted based on a bona fide estimate of a reasonable percentage of household annual costs.

Detailed reasoning

On the basis that rent has been determined at market value on an arm’s length transaction, the spouse is entitled to claim a proportion of the expenses related to the area where the office is installed.

Taxation Ruling TR 93/30 makes a distinction between:

● Occupancy expenses relating to ownership or use of a home. These include rent, mortgage interest, municipal and water rates, land taxes and house insurance premiums.

● Running expenses relating to the use of facilities within the home. These include electricity charges for heating/cooling, lighting, cleaning costs, depreciation, leasing charges and the cost of repairs on items of furniture and furnishings in the office.

It is reasonable for the following occupancy expenses to be apportioned based on the floor area covered by the office as set out in TR 93/30:

● Council rates;

● Insurance;

● Interest on the home loan.

The spouse can claim a deduction of 5% relating to the expenses incurred during the period they rent part of the land for the office.

TR 93/30 provides further guidance on the allocation of running expenses:

21. A deduction may be allowable where additional heating/cooling and lighting expenses are incurred as a result of income producing activities. However, the extra expenditure must relate to facilities provided exclusively for the taxpayer's benefit while he or she works. For example, if a taxpayer merely sits in the lounge room with his or her family and at the same time does some work related activity, the expenditure for lighting and heating/cooling retains its private or domestic character (refer Faichney's Case ). This would be the case where, for example, a teacher marks school work in a room where other family members are watching television or listening to music.[…]

25. Generally speaking however, the quantum of any allowable deduction for the additional expense will be small. Accordingly, a bona fide estimate based on a reasonable percentage of the household annual fuel bill will be acceptable.

The spouse intends to claim expenses for electricity and water charges. The Commissioner will accept a bona fide estimate based on a reasonable percentage of the household bills as specified at paragraph 25 of TR 93/30.

Question 8

Summary

The Taxpayer’s spouse will not be required to register for GST under Division 23 of the GST Act as their annual turnover is below the relevant threshold specified in paragraph 23-15(1)(a).

Detailed reasoning

In general, pursuant to section 23-5 of the GST Act, an entity must register for GST if it is carrying on an enterprise and its GST turnover is at or above the registration turnover threshold of $75,000 (paragraph 23-15(1)(a)).

In GST Determination GSTD 2000/9, the Commissioner recognizes that

You are required to register for the Goods and Services Tax (GST) if you are carrying on an enterprise and your GST turnover meets the registration turnover threshold. In most cases, you meet the registration turnover threshold if the GST exclusive value of your taxable and GST-free supplies is $75,000 or above. Input taxed supplies do not count toward the threshold for GST registration purposes. A supply by way of lease or licence of residential premises to be used predominantly for residential accommodation is an input taxed supply. Also, you may register for GST if you are carrying on, or intend to carry on, an enterprise.

The definition of enterprise includes a series of activities done on a regular or continuous basis, in the form of a lease, licence or grant of an interest in a property. Letting an area of the Property on a continuous basis is therefore within the definition of enterprise.

The circumstances of this case involve the renting of a small area of the Property so that the Taxpayer can install a removable structure to be used as office from where they intends to conduct their legal practice.

However, it is expected that the rent received will be well below the relevant $75,000 threshold accordingly the spouse will not be required to register for GST under Division 23 of the GST Act.

Question 9

Summary

The Taxpayer and their spouse will obtain a partial exemption under section 118-190 of the ITAA 1997. For the purpose of the CGT provisions, the Taxpayer and their spouse will be deemed to have acquired the Property on the day of first income producing use at its market value pursuant to section 118-192.

Detailed reasoning

When part of the residence is used as a place of business, and therefore to produce assessable income, a partial exemption on the capital gain realized on disposal is allowed under section 118-190 of the ITAA 1997.

The test to determine whether the dwelling was used to produce assessable income is based on the following test: if you had incurred interest on money borrowed to acquire the dwelling and you could have deducted some or all of that interest, then the dwelling has been used to produce assessable income. A deduction for interest for using part of a residence as place of business requires that that part of the residence have the character of a place of business. As concluded in Question 3, the cabana is within the definition of place of business.

The amount of capital gain on which the taxpayers are assessed is the amount that is “reasonable” having regard to the extent to which you would have been able to deduct the interest under the test in paragraph 118-190(1)(c) of the ITAA 1997. In general, it is accepted that the floor area is a reasonable basis for this calculation. Taxation Determination TD 1999/66specifies at paragraph 4:

In most cases, it is appropriate to increase the capital gain or capital loss that would have been made apart from section 118-190 on this basis of floor area, taking into account also the time that the area has been used for income producing purposes.

The floor area covered by the office has been quantified as being 5%.

Assuming that the Property will not have any other income producing income use, and that the office is solely used for business purposes, the reasonable determination of the capital gain referable to the area used for income producing purposes is the following:

(Capital proceeds less cost base of the Property) x floor area of the office / floor area of the dwelling (i.e. 5%) x ownership interest.

On the basis the disposal of the Property occurs 12 months after the first income use, the gain can further be reduced by the 50% General CGT Discount within Division 115 of the ITAA 1997.

The cost base to be used for the determination of the capital gain is calculated by reference to section 118-192 of the ITAA 1997. For section 118-192 to apply, the following conditions must be satisfied:

a) The dwelling must be a post-CGT dwelling;

b) The first income producing use of the dwelling must have happened after DDMMYY,

c) The Taxpayer must have been eligible for a partial exemption because of the income producing use.

d) Had the relevant CGT event happened just before the first income use, the Taxpayer would have neem entitled to a full main residence.

Based on the information provided, the Property has never been used for income producing purposes; accordingly the use of the land as location to run the legal practice will be the first income producing use. It follows that the conditions within section 118-192 of the ITAA 1997 are satisfied and the asset will be deemed to have been acquired on the day of first income us for its market value at that time (subsection 118-192(2) of the ITAA 1997).

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