Edited version of private advice

Authorisation Number: 1051831742603

Date of advice: 27 April 2021

Ruling

Subject: CGT - conservation covenant

Question 1

Will capital gains tax (CGT) event D4 in subsection 104-47(1) of the Income Tax Assessment Act 1997 (ITAA 1997) occur when you enter into a 'Biodiversity Stewardship Agreement' entitling you to receive biodiversity credits?

Answer

Yes.

Question 2

Will CGT event A1 in section 104-10 of the ITAA 1997 occur when you dispose of biodiversity credits via a sale of the credits?

Answer

Yes.

Question 3

Will the amount of the 'Total Fund Deposit' paid by you to the Biodiversity Stewardship Payments Fund form part of your cost base (or reduced cost base) of the biodiversity credits?

Answer

Yes.

Question 4

Does the cost base of the biodiversity credits include an amount equal to the market value of 'other property' given up (being rights in respect of the land) by you in acquiring the biodiversity credits (such amount being equal to the capital proceeds received under CGT event D4)?

Answer

No.

This ruling applies for the following periods:

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You own rural land that is held on capital account.

You have lodged an application for, and intend to enter into, a Biodiversity Stewardship Agreement (BSA) under the Biodiversity Conservation Act 2016 (NSW) (Biodiversity Act).

Entering into the BSA will allow you to participate in the Biodiversity Banking and Offset Scheme (Scheme) established and governed by the Biodiversity Act.

The Scheme is a market-based scheme that was established by the NSW Department of Environment, Climate Change and Water (DECCW) to help address the loss of biodiversity and threatened species in NSW. It seeks to do so by creating incentives for landowners to improve or maintain biodiversity values as a means of offsetting impacts on other areas.

The Scheme is administered by the NSW Biodiversity Conservation Trust (BCT).

After an assessment of the land has been carried out, the landowner may enter into a BSA which establishes a Biodiversity Stewardship Site on the land. In doing so, landowners commit themselves and future owners of the land to enhancing and protecting biodiversity values on the site.

On execution of a BSA, the landowner is entitled to receive an amount of money as set out in the BSA, satisfied in full by the issue of biodiversity credits. These credits are created in respect of management actions to be carried out in accordance with the BSA. They represent an anticipated improvement in the condition of biodiversity values such as improvement in the habitat or an increase in the habitat or population of a threatened species.

Biodiversity credits may be sold by the landowner to a buyer (or in parcels to a number of buyers) seeking to offset the impact of actions detrimental to biodiversity.

As part of the Scheme, an amount known as the Total Fund Deposit.is determined by calculating the present value of the total of all scheduled management payments in respect of the site by a discount rate determined and published from time to time.

On the first sale of the biodiversity credits by the landowner, the Total Fund Deposit specified in the BSA (or a proportion, if not all the credits are sold) is required to be paid by the landowner into the Biodiversity Stewardship Payments Fund (the Fund). The payment must be made before the sale transfer can be registered.

Once the payment of the Total Fund Deposit has been paid, the landowner is entitled to retain the balance of sale proceeds from the biodiversity credits and receive annual payments out of the Fund in respect of management actions carried out by the landowner in accordance with the BSA.

You have provided copies of the NSW Biodiversity Conservation Trust 'Taxation Guide for Landholders' February 2020 and September 2020 editions which form part of the facts of this private ruling.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 103-10

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 subsection 104-10(4)

Income Tax Assessment Act 1997 subsection 104-47(1)

Income Tax Assessment Act 1997 subsection 104-47(3)

Income Tax Assessment Act 1997 subsection 104-47(4)

Income Tax Assessment Act 1997 subsection 104-47(5)

Income Tax Assessment Act 1997 subsection 108-5(1)

Income Tax Assessment Act 1997 subsection 110-25(2)

Income Tax Assessment Act 1997 paragraph 110-25(2)(b)

Income Tax Assessment Act 1997 subsection 110-25(3)

Income Tax Assessment Act 1997 subsection 116-20(1)

Reasons for decision

Question 1

A BSA constitutes a conservation covenant over the landowner's land for the purposes of subsection 104-47(1) of the ITAA 1997.

On entering into a BSA, the landowner will enter into a conservation covenant and CGT event D4 will happen at that time.

Subsection 116-20(1) of the ITAA 1997 provides that the capital proceeds from a CGT event are the total of:

•         the money you have received, or are entitled to receive, in respect of the event happening; and

•         the market value of any other property you have received or are entitled to receive, in respect of the event happening (worked out as at the time of the event).

The capital proceeds for a CGT event includes an amount that is applied for your benefit or as you direct (section 103-10 of the ITAA 1997).

The capital proceeds from entering into the BSA is the amount the landowner receives or is entitled to receive under that agreement. The amount that is applied in respect of the issue of the biodiversity credits is an amount that the landowner receives or is entitled to receive.

The landowner will make a capital gain if the capital proceeds from entering into the BSA are more than that part of the cost base of the land that is apportioned to the covenant. The landowner will make a capital loss if those capital proceeds are less than the part of the reduced cost base of the land that is apportioned to the covenant (subsection 104-47(3) of the ITAA 1997).

Subsection 104-47(4) of the ITAA 1997 provides the formula for working out the cost base of the land that is apportioned to the covenant.

The cost base and reduced cost base of the entire land are reduced by the part of the cost base or reduced cost base of the land that is apportioned to the covenant (subsection 104-47(5)).

Question 2

Subsection 108-5(1) of the ITAA 1997 defines a CGT asset as:

a)    any kind of property; or

b)    a legal or equitable right that is not property.

Biodiversity credits fall within the definition of a CGT asset.

CGT event A1 happens on the disposal of a CGT asset. Under section 104-10 of the ITAA 1997, a CGT asset is disposed of when there is a change of ownership, whether because of some act or event or by operation of law.

On the sale of biodiversity credits, the landowner will dispose of a CGT asset at the time the landowner enters into the sale contract. Under subsection 104-10(4) of the ITAA 1997, the landowner will make a capital gain if the capital proceeds from the sale are more than the cost base of the biodiversity credits. If the capital proceeds are less than the reduced cost base of the biodiversity credits, the landowner will make a capital loss.

The capital proceeds from the disposal of the biodiversity credits is the money or the market value of property the landowner receives or is entitled to receive in respect of the disposal.

In your case, the capital proceeds will be the sale price you receive from the purchaser of the biodiversity credits.

Subsection 110-25(2) of the ITAA 1997 provides that the first element of the cost base of a CGT asset is the total of:

a)    the money you paid, or are required to pay in respect of acquiring the CGT asset; and

b)    the market value (worked out at the time of the acquisition) of any other property you gave, or are required to give, in respect of acquiring the CGT asset.

In your case, the first element of the cost base of the biodiversity credits is the money you paid or are required to pay in respect of acquiring the biodiversity credits. This is the amount specified in the BSA as having been applied in respect of the issue of the biodiversity credits to you.

Question 3

On the first sale of the biodiversity credits by you, the Total Fund Deposit specified in the BSA (or a proportion, if not all the credits are sold) is required to be paid by you into the Fund. The payment must be made before the sale transfer can be registered.

From the above, it is evident that the Total Fund Deposit amount is inextricably linked to the disposal of the biodiversity credits. Therefore, it is included in the cost base of the credits.

Subsection 110-25(3) of the ITAA 1997 provides that the second element of the cost base of a CGT asset is the incidental costs you incurred in relation to the asset. These costs include giving property.

It is considered that the most appropriate element of the cost base for the payment of the Total Fund Deposit is the second element.

Question 4

As mentioned above, the first element of the cost base of a CGT asset, as specified in subsection 110-25(2) of the ITAA 1997, is the total of:

a)    the money you paid, or are required to pay in respect of acquiring the CGT asset; and

b)    the market value (worked out at the time of the acquisition) of any other property you gave, or are required to give, in respect of acquiring the CGT asset.

In your case, it has already been determined that the first element of the cost base of the biodiversity credits will include the value of the credits when issued (and the second element of the cost base will include the amount of the Total Fund Deposit).

However, you argue that the first element of the cost base of the biodiversity credits should also include the market value of the rights given up by you in relation to the land subject to the BSA, that value being equal to the value of the biodiversity credits when issued. The giving up of the rights should be recognised as 'property given or required to be given' for the purposes of the first element of the cost base.

It is the Commissioner's view that paragraph 110-25(2)(b) of the ITAA 1997 includes only physical property given in respect of acquiring a CGT asset, that is, property that is disposed of.

However, in your case, you will not be physically giving or disposing of any property as part of entering into the BSA, for example, by way of disposing of part of your land.

In any event, we note that the market value of the rights given up by you in relation to the land that is subject to the BSA will be taken into account in the CGT event D4 calculation, where:

•         the cost base apportioned to the land under subsection 104-47(4) of the ITAA 1997 reduces the amount of any capital gain as per subsection 104-47(3), which is a financial advantage to you, and

•         the cost base and reduced cost base of the entire land are reduced by the part of the cost base or reduced cost base of the land that is apportioned to the covenant (subsection 104-47(5)), which is also a financial advantage to you.

Consequently, the amount that reflects the value of the rights given up in relation to the land is not an amount that can be included in the cost base.

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