Edited version of private ruling

Authorisation Number: 1011674952303

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Ruling

Subject: Solar energy generation - effective life - decline in value

1. What is the effective life of solar electricity generating systems installed at and used in business premises in Australia?

The effective life is 20 years as set out in Taxation Ruling TR 2010/2.

2. What depreciation rate should be applied to solar electricity systems installed at and used in business premises in Australia?

We decline to rule on this question. General information is provided instead.

This ruling applies for the following periods:

1 July 2010 to 30 June 2011.

1 July 2011 to 30 June 2012.

The scheme commences on:

1 July 2010.

Relevant facts and circumstances

You are proposing to install a solar electricity generating system on the roof of a property that you own. The property is located in Australia and you lease the property to a third party that operates a business.

You believe that you will be entitled to a right to create Renewable Energy Certificates (RECs) which may reduce the cost of the system.

The proposed system is rated at just under five kilowatts and is connected to the grid. If the business that leases the property is using the electricity at the time of generation then no electricity would be exported to the grid. You estimate that 20% of the electricity that is generated is exported to the grid. This amount would be deducted from each account and would never exceed the cost of electricity bought in.

Income from the sale of electricity to the grid would be declared as income for tax purposes.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Subdivision 20-A

Income Tax Assessment Act 1997 Division 40

Income Tax Assessment Act 1997 Section 40-25

Income Tax Assessment Act 1997 Section 40-70

Income Tax Assessment Act 1997 Section 40-75

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA of the ITAA 1936 to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA of the ITAA 1936 applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA of the ITAA 1936, go to our website www.ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.

Reasons for decision

Question 1:

Summary

TR 2010/2 is the Commissioner's most current ruling in respect of the effective life of depreciating assets.

Detailed reasoning.

Decline in value

For assets that are capital in nature, you cannot claim deductions under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997). Instead, under the capital allowances system you may be able to claim deductions for the decline in value of the cost of a capital asset used in gaining your assessable income. You can deduct the decline in value of the capital cost of your solar system where it is used in gaining your assessable income.

Under section 40-25 of the ITAA 1997 you can deduct an amount equal to the decline in value for an income year of a depreciating asset that you hold. A depreciating asset is an asset that has a limited effective life and can reasonably be expected to decline in value over the time that it is used.

You must reduce your deduction by the part of the asset's decline in value that is attributable to your use of the asset for a purpose other than a taxable purpose. The purpose of producing assessable income is a taxable purpose.

A solar system comprises modules of photovoltaic cells, a roof mounting frame, various fixings, electrical wiring and conduits and inverters. The entire solar system is considered to be a single depreciating asset.

Taxation Ruling TR 2010/2 Income tax: effective life of depreciating assets provides a table listing the effective life of depreciating assets. In accordance with TR 2010/2 the effective life of solar power generating system assets on residential property is 20 years.

You will install a solar system on a building that you lease to a third party that carries on a business. There is no additional use or wear and tear that would result in a lesser effective life for the solar system than that on a residential property. In your circumstances, the Commissioner provides that the effective life of the solar system is 20 years.

The cost of the solar system is, generally, amounts you are taken to have paid to hold the solar system, such as the purchase price including its installation and connection costs. It is worked out as at the time you begin to hold the solar system, that is, when it is installed and ready for use. It also generally includes amounts you pay over time to maintain its condition.

For more information on determining the decline in value of your solar system, you should refer to the publication Guide to depreciating assets 2009-10 (NAT 1996) which can be found on our website.

Question 2:

General Information

Summary

A taxpayer can choose to use one of two methods to depreciate an asset. The methods are the diminishing value method or the prime cost method. Once you have chosen a method for the particular asset, you cannot change to the other method for that asset.

Detailed reasoning.

Diminishing value method, section 40-70 of the ITAA 1997.

This method assumes that the decline in value each year is a constant proportion of the remaining value and produces a progressively smaller decline over time.

The decline in value is calculated as:

Base value x days held x 200% .

asset's effective life

Prime cost method, section 40-75 of the ITAA 1997.

This method assumes that the value of a depreciating asset decreases uniformly over its effective life.

The decline in value is calculated as:

Asset's cost x days held x 100% .

365 asset's effective life

Further issues for you to consider

Assessable recoupments

Under Subdivision 20-A of the ITAA 1997, your assessable income may include an amount you receive by way of insurance, indemnity or other recoupment if it is for a deductible expense and it is not otherwise assessable income.

This provision needs to be considered where your solar system produces assessable income and you incur a loss or outgoing (that is, expense) to install and own that system.

If you install an eligible solar system, you may have a statutory right to create RECs after the system is installed. You can assign the right to another person, for example the installer of the system, or you may create the RECs and sell them on the market.

Assigning the right to create RECs to another entity (such as the installer) is considered to result in a financial benefit to you. The financial benefit is the reduction in the amount you paid for the purchase and installation of the solar system.

You incur a loss or outgoing when you acquire and install your solar system. The RECs are effectively a financial incentive given to you to purchase the system. The amounts received in respect of the RECs are considered to be received by way of indemnity (and therefore a recoupment) as they satisfy a statutory obligation under the REE Act to partially compensate you for the cost to install and own the solar system.

The recouped amount is an assessable recoupment where you can deduct an amount for the loss or outgoing for the solar system being the decline in value deduction under Division 40 of the ITAA 1997 as outlined above.

Where the cost of the solar system is deductible under Division 40 of the ITAA 1997 over several income years, the total assessable recoupment included in a particular year is the amount of the deduction for the loss or outgoing in that year. Any part of the assessable recoupment that is not included in assessable income in the year it is received is assessable in later income years.

For example, on 1 July 2009 Wilma installed a 10 kilowatt solar system costing $60,000 on the roof of her private residence. She received the right to create RECs to the value of $12,000. She assigned these to the installer, reducing the price she paid for the solar system to $48,000.

Wilma claims decline in value of her solar system using the prime cost method and an effective life of 20 years. She can claim a deduction for decline in value of the system of $3,000 for the 2009-10 income year and each of the following 19 income years (being $60,000 x 100%/20). As Wilma received the right to RECs to the value of $12,000, this is considered to be an assessable recoupment. As her deduction for decline in value of the system is $3,000 each year, she will include an assessable recoupment of $3,000 each year in her assessable income for the first 4 income years.

Taxation Determination TD 2006/31 deals with recoupments for rebates received for the purchase of a depreciating asset for use in a rental property. It provides further guidance on how the recoupment provisions operate in relation to depreciating assets. In addition ATO Interpretative Decision ATO ID 2010/218 deals with when the right to create RECs is an assessable recoupment, again in the context of rental properties.