Edited version of private ruling

Authorisation Number: 1011614699529

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Ruling

Subject: Income Tax - investment commitment time

Question 1

Will the Commissioner of Taxation confirm that, for the purposes of section 41-25 of the Income Tax Assessment Act 1997 (ITAA 1997), the investment commitment time in relation to an asset was in X?

Answer

Yes

This ruling applies for the following period:

2009-10 income year

The scheme commences on:

1 July 2009

Relevant facts and circumstances

The entity is the head company of an Australian tax consolidated group which includes a wholly owned subsidiary.

The entity is seeking a 'Small Business and General Business Tax Break' for some new equipment and is seeking confirmation that the investment commitment time in relation to this occurred in X.

A related entity entered into a contract for the purchase of the relevant equipment.

At the initial purchase contract, the related entity made a down payment with the contract requiring a further payment within 10 days of signing.

After signing the purchase contract, the manufacturer commenced the construction of the equipment.

During this time, the manufacturer maintained possession and ownership of the equipment.

Personnel of the entity made regular visits to inspect the construction of the equipment but had no influence over the manufacturer of the equipment.

An asset transfer agreement was entered into whereby the related entity transferred its interest in the equipment to another related entity.

Engineers were satisfied the equipment was built to specification and a certificate of acceptance was signed by the related entity.

A balancing payment was then made.

Later, the related entity took delivery of the equipment and with delivery accepted title and possession of the equipment.

A number of agreements were entered into in respect of the financing and ownership of the equipment.

Transfer of legal ownership

A series of events took place under these agreements including, the entity as buyer, entering into a conditional sale agreement with the seller.

Sum of instalments payable under conditional sales agreement

The applicant confirms that subparagraph 995-1(1)(a)(ii) of the ITAA 1997, which gives a definition of hire purchase agreement, is satisfied under the conditional sales agreement.

Regarding intention to acquire the equipment

During the planning stages of the arrangement, the entity planned for a long term use in Australia of the equipment. Also, at the time the conditional sales agreement was executed, the entity had the right and intended to acquire title to the equipment at the end of the arrangement.

Reasons for decision

Section 41-10 of the ITAA 1997 provides that a taxpayer is entitled to a deduction for the recognised new investment amount in relation to a depreciating asset if it exceeds the new investment threshold for that year of income.

An amount of expenditure relating to an eligible asset is a 'recognised new investment amount' where the 'investment commitment time' occurs in the period between 13 December 2008 and 31 December 2009 (paragraph 41-20(1)(b) of the ITAA1997).

Where an amount is included in the first element of the asset's cost, the investment commitment time is defined under paragraph 41-25(1)(a) of the ITAA 1997 as the time at which you:

(i) enter into a contract under which you hold the asset at that time, or will hold the asset at a later time; or

(ii) start to construct the asset; or

(iii) start to hold the asset in some other way...

In order to determine the investment commitment time, it is crucial to determine the point in time at which the taxpayer becomes the holder of the asset, for the purposes of section 40-40 of the ITAA 1997, as defined under subsection 995-1(1) of the ITAA 1997.

The table in section 40-40 of the ITAA 1997 provides some guidance on who might be the holder of a depreciating asset at a particular time.

Generally, a taxpayer starts to hold an asset under the contract to purchase the asset. This means that a taxpayer can order an asset and may still be eligible for the tax break even though the asset is not delivered until after the cut off date. This is because the taxpayer has made the decision to invest within the prescribed period. This would be the case if the taxpayer financed the acquisition in a way that still gives them legal title to the asset.

The outcome, however, is different if the acquisition of the asset is financed under hire purchase agreements (which are not generally entered into until the asset is delivered). This is due to the effect of the 'hold' rules in Division 40 of the ITAA 1997 which provide that a taxpayer starts to hold the asset under a hire purchase agreement.

Under item 6 of the table in section 40-40 of the ITAA 1997, the hirer of a depreciating asset subject to a hire purchase agreement will be the holder if they:

· possess the asset or have a right to do so immediately, and

· have a right to become the legal owner and it is reasonable to expect that they will become the legal owner or that the asset will be disposed of for their benefit.

In the case of the equipment, it is considered that the entity is neither the legal owner nor the economic owner prior to settlement of the conditional sales agreement in X. That is, the contract under which the entity started to hold the asset (for the purposes of subparagraph 41-25(1)(a)(iii) of the ITAA 1997) is the conditional sales agreement. The conditional sales agreement was entered into in X and therefore the investment commitment time is X.

The entity as holder under the conditional sales agreement

The applicant contends that the conditional sales agreement is a hire purchase agreement as defined in section 995-1 of ITAA 1997.

'Hire purchase agreement' means:

(a) a contract for the hire of goods where:

(i) the hirer has the right, obligation or contingent obligation to buy the goods; and

(ii) the charge that is or may be made for the hire, together with any other amount payable under the contract (including an amount to buy the goods or exercise the option to do so) exceeds the price of the goods; and

(iii) title in the goods does not pass to the hirer until the option referred to in subparagraph (a)(i) is exercised; or

(b) an agreement for the purchase of goods by instalments where title in the goods does not pass until the final instalment is paid.'

It is accepted the conditional sales agreement meets the definition of a 'hire purchase agreement' (as defined above) with the entity as the hirer of the goods (equipment).

The entity has a right to buy the equipment (subparagraph (a)(i) of the definition).

The applicant has confirmed that subparagraph (a)(ii) of the definition is satisfied - the sum of the instalments payable under the conditional sales agreement exceeds the market value of the equipment.

In determining whether the entity is the 'holder' of the equipment, reference is made to section 40-40 of the ITAA 1997. Item 6 of the table in section 40-40 of the ITAA 1997, states that the economic owner and not the former holder is the holder of a depreciating asset:

..where a second entity (also the economic owner):

(a) possesses the asset, or has a right as against the former holder to possess the asset immediately; and

(b) has a right as against the former holder the exercise of which would make the economic owner the holder at any item under this table and it is reasonable to expect that the economic owner will become its holder by exercising the right, or that the asset will be disposed of at the discretion and for the benefit of the economic owner

In the case of a depreciating asset that is subject to a hire purchase agreement, item 6 in section 40-40 of the ITAA 1997 indicates the hirer of a depreciating asset will be the holder of the asset, provided the hirer has a right to acquire the asset and it is reasonable to expect that the hirer will actually acquire the asset.

Taxation Ruling TR 2005/20 which deals with - Income Tax: the interaction of deemed ownership under Division 240 of the Income Tax Assessment Act 1997 with the holding rules in Division 40 states in paragraphs 28 & 29:

28. The cases suggest for it to be 'reasonable to expect' something to occur requires a sufficiently reliable prediction that it will occur, or at least an expectation or prediction based on reasonable grounds.

29. The Commissioner considers that in the legislative context in which the phrases appear, the meanings of 'reasonably likely' and 'reasonable to expect' are the same. The purpose of Division 240 is to identify when a hire-purchase agreement amounts to a notional sale; the purpose of Division 40 is to identify the 'economic owner' of an asset in order to allow that taxpayer a deduction for the decline in value of the asset. Under a typical hire-purchase agreement, title to the goods hired under the agreement passes as a matter of course to the hirer. The context of the tests in both Divisions shows that they are concerned with cases where the hirer will become the owner. Accordingly we consider that the expressions 'reasonably likely' in subsection 240-115(1) and 'reasonable to expect' in item 6 both require that it be reasonable to conclude that the notional buyer will acquire the asset or have the goods disposed of at their direction and for their benefit. Both subsection 240-115(1) and item 6 require that the notional buyer have such an expectation of the future and that it is based on a reasonable basis. Accordingly, 'reasonably likely' and 'reasonable to expect' should be given the same meaning in interpreting the respective provisions of the ITAA 1997 in which they are found.

The entity confirms that it will exercise the right to acquire the equipment, then either own the equipment, sell the equipment or enter into another financing arrangement (either operating lease or hire purchase agreement) in relation to the equipment.

Thereby satisfying subparagraph (a)(iii) of the definition.

It is considered the entity is the holder of the asset at the time of entering into the conditional sales agreement on the basis that the conditional sales agreement meets the definition of a 'hire purchase arrangement' (as defined under section 995-1 of the ITAA 1997).

The right of possession and the right to become the equipment's legal owner were rights acquired by the entity under the hire purchase agreement. By entering into the hire purchase agreement, it gave rise to a contract under which the entity would hold the asset for the purposes of subparagraph 41-25(1)(a)(i) of the ITAA 1997. Therefore, the entity became the holder of the equipment under item 6 of the table in section 40-40 of the ITAA 1997 in X.