GST issues registers

Primary production industry partnership

Appendix A

Dairy Structural Adjustment Program

Acquisition and disposal of a payment right unit

Background

The Dairy Structural Adjustment Program ("DSAP") Scheme was introduced to assist dairy farm enterprises to restructure their business following the deregulation of the dairy industry on 1 July 2000. Under the DSAP scheme, an entity meeting the eligibility criteria in respect of a dairy farm enterprise is granted the right to receive regular quarterly payments. A right to receive payments is known as a DSAP payment right.

Each DSAP payment right consists of a number of "units". Each unit has a face value of $32 and the registered owner of a unit is entitled to a $1 payment each quarter over an 8 year period. These units can be transferred or sold among primary producers.

Are the quarterly payments assessable income?

Under section 75 of the Dairy Industry Adjustment Act 2000 ("DIAA 2000") the payments received by the entity to whom a payment right has been granted are to be taken to be subsidies under section 15-10 of the Income Tax Assessment Act 1997 and are included in assessable income of that entity.

A subsequent owner of units is considered to have acquired an annuity in terms of section 27H of the Income Tax Assessment Act 1936. Regular payments arising from the annuity are assessable income. Where the annuity was purchased, a deduction is allowed in relation to the undeducted purchase price of the annuity.

Are the quarterly payments income from primary production?

The payments received by the entity to whom a payment right has been granted arise from ownership of the eligible dairy farm enterprise. These payments are considered income from primary production but only while the dairy farm enterprise continues to be carried on.

A subsequent owner of units has acquired an annuity. A subsequent owner has not been granted a payment right in respect of an eligible dairy farm enterprise. In this case, the payments are not regarded as income from the carrying on of a business of primary production.

What are the tax consequences of disposing of a payment right unit?

A payment right unit is an asset for capital gains tax purposes. An entity that disposes of a payment right unit makes a capital gain equal to the amount of the capital proceeds from the disposal less the cost base of the unit disposed of.

Generally, the capital proceeds are the amount received for the disposal of the units. Where units expire at the end of the eight year period the capital proceeds are likely to be nil. However, where an entity transfers units before expiry for no capital proceeds (or for capital proceeds in a non-arm's length transaction that are less or more than the assigned unit's market value), the capital proceeds are taken to be the market value of the units transferred. The market value of the units would be based upon the present value of the remaining income stream attached to the units.

For an entity to whom the grant was made, the cost base of the units is nil, except for any incidental costs. This means that the full amount of the capital proceeds (less incidental costs) would be included in assessable income as a capital gain in the year of transfer. This entity would normally be considered to have acquired the units 28 days after having received the Notice of Decision, in accordance with section 18 of the DSAP Scheme.

Where an entity disposes of the dairy farm enterprise and all its assets (including the units) and the sale price for the dairy farm enterprise does not specifically refer to an amount for the units, an apportionment of the full consideration received for the dairy farm enterprise needs to be made for the units.

Generally capital gains and capital losses can be offset against each other. In addition, a capital gain made by individuals or certain trusts on assignment of a unit held for at least 12 months would qualify for the 50% capital gains tax discount. However, the small business capital gains tax concessions would not apply because the payment right (as a form of financial instrument) would not be an active asset.

What are the tax consequences of acquiring a payment right unit?

An entity that purchases a payment right unit has acquired an asset for capital gains tax purposes. The amount given to acquire the units is the first element of the cost base. However, where a deduction has been allowed for the purchase price of the units (eg; the undeducted purchase price), the cost base of the units is reduced by the amount which has been allowed as a deduction. Therefore, in many cases, the cost base (and any potential capital loss upon expiry of the units) would be reduced to nil.

Where an entity does not pay an amount to acquire the units (eg; a gift), the entity is taken to have acquired the units at their market value at the time of acquisition. As no deduction is available for an undeducted purchase price of an annuity in these circumstances, there would be no reduction in the cost base when calculating any capital gain.

Example 1

Maids-A-Milken Pty Ltd was granted a payment right by the Dairy Adjustment Authority of $32,000. This payment right consisted of 1000 units with a face value of $32. Each unit entitles the holder to 4 quarterly payments of $1 over 8 years.

Each payment received is a grant or subsidy and is included in assessable income in the year of receipt. For capital gains purposes, the cost base of the payment right is nil. If Maids-A-Milken does not sell any units, the units will expire when the last payment is made by the Dairy Adjustment Authority. Maids-A-Milken will have received the full value of the units as assessable income and nothing on disposal. Therefore, no capital gain or loss would arise.

On the other hand, should Maids-A-Milken decide to dispose of any or all of the units, a capital gain would arise. However, Maids-A-Milken may be entitled to offset this capital gain against existing capital losses.

Example 2

Daphne sells her dairy farm to Mario. Mario intends to carry on the dairy business previously conducted by Daphne. Mario purchases all the assets of the farm, including a payment right granted to Daphne by the Dairy Adjustment Authority. The sale contract does not apportion any value to individual assets, although the contract specifically includes the payment right that Daphne had been granted.

An apportionment of the total price paid by Mario to acquire the farm needs to be made to determine the purchase price for the units. The amount apportioned to the units should be so much of the total price as is reasonably attributable to the units and would be related to the market value of the units.

Example 3

Clyde was granted a payment right to the value of $100,000 by the Dairy Adjustment Authority in respect of an eligible dairy business he conducted. Clyde receives his payments for two years and then sells all of the units to Farmer Brown for $60,000.

Clyde is assessed on the income received during the two years as income from primary production. In addition, the $60,000 received for the disposal of the units is a capital gain (assuming no incidental costs). This capital gain can be offset against capital losses. He may also be entitled to a 50% discount on the capital gain.

Farmer Brown has purchased an annuity for $60,000. The payments will be included in Farmer Brown's assessable income upon receipt ($12,500 per annum) but a deduction will be available for the undeducted purchase price of the annuity ($10,000 per annum). Upon expiry of the units the cost base ($60,000) is reduced by the amount previously allowed as a deduction ($60,000). This reduces the cost base to nil. Because Farmer Brown receives nothing upon expiry of the payment right, he makes neither a capital gain nor a capital loss.

Example 4

Dave is a sharefarmer. He has been granted a payment right in respect of an eligible dairy farm enterprise. The land owner, Belinda, has also been granted a payment right. To fund improvements to the farm, Dave agrees to transfer some or all of his units to Belinda. Dave receives no consideration for the transfer of the units.

Dave has disposed of a valuable asset for no or inadequate consideration. He is treated as disposing of the units for market value, which would be the present value of the income stream attached to the units. As the cost base is nil, Dave will be subject to a capital gain which would be included in his assessable income in the year of disposal.

Belinda has acquired an annuity. The annuity payments are included in her assessable income in the income year they are received. As Belinda paid no purchase price to acquire the annuity, the undeducted purchase price of the annuity is nil. Accordingly, no allowable deduction would be available for the annuity payments.

However, Belinda has also acquired a capital gains tax asset. As Belinda did not purchase the units, she is taken to have acquired them at their market value at the time of acquisition. This is the cost base of the units. If Belinda keeps the units until they expire, a capital loss would arise as the cost base of the units would not have been reduced by an amount for the undeducted purchase price of the annuity attached to the units.

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