Edited version of private advice

Authorisation Number: 1051795482237

Date of advice: 17 February 2021

Ruling

Subject: Compensation payments, mining operation

Question 1

Will the compensation amounts received under the Compensation Agreement (the agreement) be taxed as assessable income in accordance with section 6-5 Income Tax Assessment Act 1997 (ITAA97) or be subject to Capital Gains Tax (CGT)?

Answer

The compensation amounts are capital in nature.

Question 2

Will the landholder incur a GST liability on the receipt of compensation amounts from xxxxx (the resource authority holder)?

Answer

No.

This ruling applies for the following periods:

1 July 20XX to 30 June 20XY

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You (landholder) own Land known as "Lot 1" (the Land). The Land is a post-CGT asset.

You carry on a livestock grazing enterprise on the Land, as partners in a partnership (the partnership). The partnership is registered for GST. You also own another property known as "Lot 2."

You have entered into an agreement (the Agreement) with the resource authority holder. This is an agreement under the Mineral and Energy Resources (Common Provisions) Act 2014 (Qld) and the Petroleum and Gas (Production and Safety) Act 2004 (Qld) and the Petroleum Act 1923 (Qld). The agreement stipulates compensation amounts to you for the impact of all continuing activities and proposed impacts which include the proposed placement of x coal seam gas (CSG) wells on the land.

The compensation amounts to be paid are set out in the Agreement. Clause 5 of the agreement states that the agreement will cease when the resource authority holder gives you notice that it has completed all the activities on the land.

These compensation amounts relate to the impacts of the resource authority holder constructing, testing, developing, operating, maintenance, decommissioning and rehabilitation of x wells on the Land. These activities include constructing, maintaining and installing: Petroleum wells (approximately 1.2 hectares each site), access points, fences and gates, roads and access tracks, pipeline infrastructure, Gathering System and Cables.

Relevant legislative provisions

Income Tax Assessment Act 1936 subsection 160ZH(11)

Income Tax Assessment Act 1997 section 6-5

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

Mineral and Energy Resources (Common Provisions) Act 2014 section 81

Reasons for decision

Question 1

Will the compensation amounts received under the Compensation Agreement (the agreement) be taxed as assessable income in accordance with section 6-5 Income Tax Assessment Act 1997 (ITAA97) or be subject to Capital Gains Tax (CGT)?

Taxation Ruling TR 95/35 Income Tax: capital gains: treatment of compensation receipts (TR 95/35) takes a look-through approach where it seeks to connect the relevant compensation to the most relevant impacted asset or head of claim which generated the compensation.

Whether a lump sum or other compensation payment constitutes assessable income in the hands of the recipient depends on whether it is a receipt of a capital or income nature (based on the circumstances surrounding the payment). It is the character of the receipt in the hands of the recipient that must be determined (FC of T v. Slaven 84 ATC 4077; (1984) 15 ATR 242). For income tax purposes, a compensation amount generally bears the character of that which it intends to replace.

We therefore need to establish what the compensation amounts are supposed to cover.

What is covered by the compensation amounts?

Clause 11 of the agreement explains what the compensation payments are in relation to compensatable effects, Disturbance Impacts and Noise Impacts of carrying out the mining activities.

Section 81 of the Mineral and Energy Resources (Common Provisions) Act 2014 defines the general liability of the resource authority holder to compensate each owner/occupier of private and public land that is in an authorised area for any compensatable effect the eligible claimant suffers caused by authorised activities carried out by the holder or a person authorised by the holder. Subsection 4 of section 81 goes on to define compensatable effect as follows:

Compensatable effect means all or any of the following-

(a) all or any of the following relating to the eligible claimant's land-

                      i.        deprivation of possession of its surface;

                     ii.     diminution of its value;

                    iii.     diminution of the use made or that may be made of the land or any improvement on it;

                   iv.     severance of any part of the land from other parts of the land or from other land that the eligible claimant owns;

                     v.     any cost, damage or loss arising from the carrying out of activities under the resource authority on the land;

(b) accounting, legal or valuation costs the claimant necessarily and reasonably incurs to negotiate or prepare a conduct and compensation agreement, other than the costs of a person facilitating an ADR;

...

(c) consequential damages the eligible claimant incurs because of a matter mentioned in paragraph (a) or (b).

The compensation payments received can be treated as income or capital depending on the compensatable effect that is being compensated for. Paragraph 83 of TR 95/35 states that if compensation amounts are received for a number of heads of claim (e.g., lost profits, interest etc.), the amount also needs to be apportioned between the items.

The compensatable effects

Schedule 1 to the Agreement provides a table which details the compensation amounts and the trigger events that that would initiate payment of those compensation amounts. In particular, the compensation relates to the following effects:

1)    'Lost' land

This includes land that is 'lost' or stranded due to the presence of CSG infrastructure either on it or adjacent to it. This includes land under roads, wells, kiosks, camps, etc. Each well is between 1.2 to 4.5 hectares and there will x wells on the land. You will be deprived of the use of this land permanently. There is also a possibility of severance of parts of the land from the remainder of the lot (i.e. separated by roads, etc) and rendered unproductive due to isolation from the rest of the property and the physical impacts on the land.

We note that paragraph 3 of TR 95/35 defines "Permanent damage or reduction in value" as:

Permanent damage or reduction in value does not mean everlasting damage or reduced value, but refers to damage or a reduction in value which will have permanent effect unless some action is taken by the taxpayer to put it right.

2)    Permanent diminution in the productive capacity of the land

This relates to the permanent diminution in the productive capacity of the remaining land that is not lost or stranded in the above paragraph. The productive capacity of the remaining land can be greatly diminished due to many factors.

Firstly, there will be significantly increased soil compaction, due to heavy vehicles and increased access to the land, especially near access roads.

Also, during the excavating and burying of the gathering system, pipes and cables, there will be removal of topsoil and/or mixing with inferior quality sub-soils. Contamination of the soil may also occur due to pooling of wastewater proximate to the wells. Excavation and subsequent restoration also pose a risk that holes/hollows appear afterwards in the land.

Additionally, not being able to plough or dig more than 300 mm into the ground, will greatly inhibit your ability to maintain soil structure and health, or carry on other agricultural enterprises that require deep cultivation of soil (such as deep ribbing).

Finally, there is always a risk that rehabilitation of the land may not be successful, and in any scenario, the land will most likely not return to its condition before the CSG activities were commenced, for many years, if at all. This also would include the diminution in the ability of the land in its capacity as agricultural land to produce crops or livestock as a result of CSG activity on the land.

3) Lasting effects on you and your household

The existence of CSG infrastructure on the land will impact the existing quality of life, lifestyle, and quiet enjoyment of the land. This includes the visual impact of the CSG infrastructure, noise concerns and dusty environment.

There is also a blight on the land/ diminution in the long-term market value of the land as a result of having an unwelcome attribute (industrial CSG activities) on the land. There may also be a negative stigma of having CSG activity on the land that could depress the overall value of the property. There may also be some restrictions on the crop and livestock enterprise options that can be carried on the land due to the presence of the CSG activity on the property.

All these factors combined, will lead to a reduction in the value of the land either: directly by not having access to the land due to land 'loss' or being stranded as a result of CSG activities, or indirectly by a permanent reduction in the productive capacity of the remaining land. Therefore, any compensation received for these affects above is capital in nature.

Effect on the primary Production enterprise

You also carry on a livestock grazing enterprise on the land. You confirmed that you developed a robust livestock management plan. You did not consider any compensation is required for your grazing enterprise, and consequently you did not negotiate for any such compensation, for the following reasons:

•   You operate a rotational grazing system and you consider that the progressive rotation of livestock between paddocks can enable the livestock to be managed in such a way that they do not interfere with the construction activities, including keeping livestock off land for 30 days after LWD activities have taken place.

•   It is not expected that the management of livestock in accordance with the livestock management plan will result in you incurring any additional costs. This is because you employ a conservative livestock carrying strategy which will enable you to manage the livestock currently on the land.

•   The cattle currently on the property is equivalent to approximately 50% of the carrying capacity of the property and accordingly you consider that you will be able to manage the livestock in accordance with the livestock management plan comfortably in recognition of the needs of the livestock.

•   In relation to the management of livestock during the construction period, grazing of your livestock will be coordinated between both of your properties, "Lot 1" and "Lot 2," to ensure that your primary production enterprise is not at all disadvantaged by the CSG activities.

Any compensation received for disruptions to your primary production enterprise would be income in nature. We accept that the Agreement was negotiated with you directly as it was not foreseen that the partnership conducting the grazing enterprise would be impacted significantly by the CSG activities.

Income Tax treatment

The Land is a post-CGT asset. Since the compensation amounts were received wholly in respect of permanent damage or permanent reduction in the value suffered to a post-CGT asset and there is no disposal of that underlying asset at the time of the receipt, we consider that the amount represents a recoupment of all or part of the total acquisition costs of the asset.

Accordingly, subsection 160ZH(11) of Income Tax Assessment Act 1936 applies to reduce the total acquisition costs of the post-CGT asset by the amount of the compensation that is classified as capital in nature above.

No capital gain or loss arises in respect of the land until the taxpayer actually disposes of it, which has not happened yet in this case. If, in the case of a post-CGT underlying asset, the compensation amount exceeds the total unindexed acquisition costs (including a deemed cost base) of the underlying asset, there are no CGT consequences in respect of the excess compensation amount.

Please note:

Clause xx of the Agreement goes on to provide that you as the landholders can bring additional claims for compensation. This clause could mean that you can make a compensation claim for other unforeseeable compensatable effects that are not covered in the Agreement. Please note that this ruling does not cover those compensation amounts, and that they could be income in nature if the compensation is for a loss that relates to an item that is income in nature.

Question 2

Will the landholder incur a GST liability on the receipt of compensation amounts from the resource authority holder?

The partnership carries on a cattle grazing enterprise on the Land, and is registered for GST.

For the compensation amounts to give rise to a GST liability there has to be a taxable supply made. Section 9-5 of the GST Act states that you make a taxable supply if the supply is made in the course or furtherance of an enterprise that you carry on, in connection with Australia, you are registered for GST and the supply was made for consideration.

The main question here is whether you made a supply for consideration. Moreover, whether you provided something in return for the compensation amounts that are paid to you. You received the compensation amounts as a landholder under state mining legislation as compensation for any economic loss, hardship and inconvenience as a result of CSG mining activities carried out on your land by the resource authority holder. The amount of compensation is an amount determined by Agreement.

In this case, you as the landholder do not transfer or surrender any rights related to mining on the land to the mining company because the mining company is already the holders of these rights. These rights vested in the mining company upon the grant of the statutory authority by the State Government. The resource authority holder has the rights to mine Coal Seam Gas on the land and you are not able to stop them. In the process of the resource authority holder mining the land, significant damage and adverse effects (as discussed earlier) will impact you, for which the resource authority holder must compensate you under the law. Therefore, we do not find that you provided the resource authority holder with any supply in return for the compensation amounts.

This is also consistent with our view as stated in Goods and Services Tax Ruling 2001/4: Goods and Services Tax: GST consequences of court orders and out-of-court settlements (GSTR 2001/4). Paragraph 73 states that:

The most common form of remedy is a claim for damages arising out of the termination or breach of a contract or for some wrong or injury suffered. This damage, loss or injury, being the substance of the dispute, cannot in itself be characterised as a supply made by the aggrieved party. This is because the damage, loss or injury in itself does not constitute a supply under section 9-10 of the GST Act.

You as the landholder are not making a supply, let alone a taxable supply, on which you would have a GST liability.

In regards to giving up your rights for further compensation upon commencing the agreement, this raises the issue of whether giving up of a landholder's rights would be a separate supply or as termed in Goods and Services Tax Ruling GSTR 2001/4 a 'discontinuance supply'. Paragraphs 106 to 109 in GSTR 2001/4 discuss discontinuance supplies as follows:

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.

In this instance, the compensation received relates to damages suffered by the landholder as a result of activities carried out by the mining company on their land and is not consideration for a supply and accordingly no taxable supply will be made by the landholder. This is also consistent with other rulings that were issued to mining entities to advise that the compensation payments made do not of themselves constitute a supply for GST purposes. In addition, as no part of the compensation is attributable to discontinuance supplies, there are no GST consequences for the discontinuance supplies. Giving up your right for further compensation is not a separate supply for GST purposes but rather is considered an inherent part of the legal machinery to bring finality to the amount of compensation that will ultimately be sought by you as landholder.

A situation could arise under clause x of the Agreement, where additional compensation is sought and is classified as income (as it relates to compensation for the recoupment of deductible expenses). These types of compensation were considered in several recent court cases. The courts confirmed that a damages award should be calculated on a GST exclusive basis in circumstances where the recipient is entitled to a full input tax credit for a cost or expense (Millington v Waste Wise Environmental Pty Ltd [2015] VSC 167, Gagner Pty Ltd v Canturi Corporation Pty Ltd [2009] NSWCA 413). Since you are registered for GST, you will be entitled to claim input tax credits associated with additional costs, compensation of which is classified as income, above. Therefore, the receipt of a recoupment of that expenditure will not give rise to a GST liability.

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