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Ruling

Subject: Photovoltaic solar system

Question 1:

Would payments received from your electricity retailer for the generation of electricity from a photovoltaic solar system be assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer: No.

Question 2:

Are the costs associated with the solar system, such as interest and depreciation deductible under section 8-1 of the ITAA 1997?

Answer: No.

Question 3

Are there any consequences under Part 3-1 of the ITAA 1997 for you, if instead of assigning your right to RECs to the installer in the acquisition of the solar system, you register and dispose of your RECs separately?

Answer: Yes.

Question 4

What is the cost base of a REC?

Advice/Answers

Nil or incidental costs under Subdivision 110-A of the ITAA 1997.

This ruling applies for the following period

1 July 2011 to 30 June 2012.

1 July 2012 to 30 June 2013.

1 July 2013 to 30 June 2014.

1 July 2014 to 30 June 2015.

1 July 2015 to 30 June 2016.

1 July 2016 to 30 June 2017.

The scheme commenced on

1 July 2011.

Relevant facts

You acquired and installed a photovoltaic system (solar system), on the roof of your private residence.

The Government's Solar Bonus Scheme (scheme) provides for a gross feed-in tariff. Under the scheme, your electricity retailer will be required to buy all electricity that the system generates at a gross feed in tariff rate per kilowatt hour. You will enter into a contract under which you will be paid per kilowatt hour for electricity generated by the network provider through your electricity retailer.

You paid $X for the photovoltaic system and both the solar system and electricity accounts are in your name only. Your solar system has been connected to the grid and there are no maintenance costs on the solar panels.

You installed a system that would generate enough electricity to offset the cost of your electricity consumption and it may also provide a small credit to help pay for the system. You do expect that your electricity usage will increase over the next few years. Any credit that you receive is applied to your electricity account and used as needed.

The solar system that you have purchased is an eligible small generation unit (SGU) for the purposes of the Renewable Energy (Electricity) Act 2000 (REE Act).

The REE Act supports the Federal Government's Renewable Energy Target (RET) scheme which was established to encourage additional electricity generation from renewable energy sources.

Upon ownership and installation of a SGU a statutory right arises under the REE Act entitling you to create Renewable Energy Certificates (RECs).

You created the RECs as provided for under the RET scheme and intend to sell the RECs to another entity.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Subsection 6-5(1)

Income Tax Assessment Act 1997 Subsection 6-5(2)

Income Tax Assessment Act 1997 Subsection 6-5(4)

Income Tax Assessment Act 1997 Section 6-10

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

Income Tax Assessment Act 1997 Section 104-10

Reasons for decision

Unless otherwise stated, all legislative references in the following Reasons for Decision are from the Income Tax Assessment Act 1997 (ITAA 1997)

Summary

Based on the size of the system installed, the arrangement with your energy supplier/retailer and your estimated feed-in tariff payments, the arrangement is private or domestic in nature. That being so;

o the payments you would receive for the generation of electricity from the solar system is not assessable income under section 6-5 of the ITAA 1997, and as a result,

o the costs you would incur in relation to the generation of electricity from the solar system such as decline in value, maintenance, repairs and expenses are not deductible under section 8-1 of the ITAA 1997 as they are not incurred in gaining or producing assessable income and they relate to expenses that are private or domestic in nature.

Assessable income

Under section 6-5 of the ITAA 1997 assessable income is made up of ordinary income and statutory income. There are no specific legislative provisions relating to money or credits received from electricity suppliers, therefore it is not statutory income.

Under subsection 6-5(1) of the ITAA 1997 ordinary income means income 'according to ordinary concepts'.

Under subsection 6-5(2) of the ITAA 1997 the assessable income of an Australian resident includes the ordinary income you derived directly or indirectly from all sources during the income year.

Under subsection 6-5(4) of the ITAA 1997 in working out whether you have derived an amount of ordinary income, and (if so) when you derived it, you are taken to have received the amount as soon as it is applied or dealt with in any way on your behalf or as you direct.

The tax legislation does not provide specific guidance on the meaning of income according to ordinary concepts. However, a substantial body of case law exists which identifies likely characteristics. In determining whether an amount is ordinary income, the courts have established the following principles:

o what receipts ought to be treated as income must be determined in accordance with the ordinary concepts and usages of mankind, except in so far as a statute dictates otherwise

o whether the payment received is income depends upon a close examination of all relevant circumstances; and

o whether the payment received is income is an objective test.

Relevant factors in determining whether an amount is ordinary income include:

· whether the payment is the product of any employment, services rendered, or any business

· the quality or character of the payment in the hands of the recipient

· the form of the receipt, that is, whether it is received as a lump sum or periodically; and

· the motive of the person making the payment, but noting that this latter factor is rarely decisive, as a mix of motives may exist.

In GP International Pipecoaters Pty Ltd v. Federal Commissioner of Taxation (1990) 170 CLR 124; 90 ATC 4413; (1990) 21 ATR 1 the Full High Court stated:

To determine whether a receipt is of an income or of a capital nature, various factors may be relevant. Sometimes the character of receipts will be revealed most clearly by their periodicity, regularity or recurrence; sometimes, by the character of a right or thing disposed of in exchange for the receipt; sometimes, by the scope of the transaction, venture or business in or by reason of which money is received and by the recipient's purpose in engaging in the transaction, venture or business.

Ultimately, whether or not a particular receipt is ordinary income depends on its character in the hands of the recipient. The whole of the circumstances must be considered.

Amounts that are periodical, regular or recurrent, relied upon by the recipient for their regular expenditure and paid to them for that purpose are likely to be ordinary income. However, receipts that indicate the arrangement is private or domestic in nature are not likely to be ordinary income.

In this instance, it needs to be determined whether the payments or credits received in return for transfer of electricity to the grid are income because of the nature and the circumstances of the receipt. In determining whether the receipts are income, the factual circumstances, and in particular whether the receipts indicate an activity that is more than private or domestic in nature, need to be considered. Some guidance in the context of rental properties is contained in Taxation Ruling IT 2167, which outlines the circumstances when amounts received will be considered income and when they will be considered to be in the nature of family or domestic arrangements.

A solar system is considered to be property and receipts received in connection with it are potentially assessable income. In determining whether or not the payments are assessable income the following are important:

· the size of the solar system and its generation capability

· the terms of the arrangement with the electricity retailer and in particular whether the solar system:

· is configured into the electricity system of the home - the solar system first supplies electricity to the home to satisfy household electricity consumption before exporting excess electricity to the grid (referred to as a 'net' scheme), or

· exports all electricity to the grid (referred to as a 'gross' scheme).

· the feed-in tariff payments and whether they are considered to represent a return on your investment in the solar system

· whether there is a realistic opportunity for you to profit from the arrangement, and

· the regularity of payments / credits received from the feed-in tariffs such that they can be relied upon.

Deductions

The general provision that determines the deductibility of expenses is section 8-1 of the ITAA 1997. Under section 8-1 of the ITAA 1997 you can deduct from your assessable income any loss or outgoing to the extent that it is incurred in gaining or producing your assessable income. However, you cannot deduct a loss or outgoing that is capital, private or domestic in nature.

Other provisions in the ITAA 1997 contain specific deductions which section 8-5 allows you to deduct. Examples of specific deductions include borrowing expenses under section 25-25 and deductions for depreciating assets under section 40-25.

Decline in value

For assets that are capital in nature, you cannot claim deductions under section 8-1 of the ITAA 1997. Instead, under the capital allowances system you may be able to claim a deduction for the decline in value of the cost of a capital asset if it is used in gaining your assessable income.

Capital Gains Tax sale of Renewable Energy Certificates (RECS)

A capital gains tax (CGT) asset is defined under section 108-5 as any kind of property or a legal or equitable right that is not property.

The right to create a renewable energy certificate (REC) which attaches to the purchase of eligible solar systems is a tradeable statutory right and as such is a CGT asset as defined in subsection 108-5(1) of the ITAA 1997. The right arises under the REE Act.

The right to create the REC can be assigned to an agent, or the purchaser of the eligible solar system can create the REC independently. The REC can then be traded for financial return.

CGT event A1 happens if a change in ownership occurs from you to another entity, whether because of some act or event or by operation of law under subsection 104-10 (2) of the ITAA 1997.

Subdivision 110-A provides the rules for the cost base of a CGT asset. The cost base of a CGT asset is made up of five elements:

1. money or property given for the asset

2. incidental costs of acquiring the CGT asset or that relate to the CGT event

3. costs of owning the asset

4. capital costs to increase or preserve the value of your asset or to install or move it

5. capital costs of preserving or defending your ownership of or rights to your asset.

Application to your situation

Under the gross feed-in tariff scheme and as described in your ruling application, the electricity company credits or pays a premium feed-in tariff to you for all electricity generated and contributed to the electricity grid. You then separately buy electricity from the company according to your consumption.

Payment for the electricity generated is distinct from and unrelated to the amount of electricity consumed. The rate paid by you for electricity consumed is the same as that applied to any other householder. The payment for the electricity generated can be received by way of credit on your account, cheque or direct deposit into a bank account.

You have stated that you will receive this as a separate payment by cheque from your energy retailer.

The scheme is connected with the electricity needs of your household as:

· The size of the solar system you have installed is essentially designed principally for ordinary domestic needs and will generate an amount of electricity suitable for household needs

· The electricity retailer is required to buy all electricity that is generated from the system under the gross feed in tariff scheme. The arrangement is under a standard agreement available to any customer to encourage the use of renewable energy.

· The purpose of installing the system is to offset your average household consumption

· Your family circumstances indicate that there is no realistic opportunity for you to profit from the arrangement over the life of the arrangement.

Based on your factual circumstances, it is considered that the credits you receive on your electricity account (or payment for credits) are not ordinary income because:

· The scheme is of a private or domestic nature. The size and scale of the system installed and the arrangement with the electricity retailer indicate there is connection of the scheme with the electricity needs of your household (as outlined above).

· There is no realistic opportunity for you to profit from the arrangement over the life of the system.

Accordingly, the payments you receive from the electricity retailer are part of an arrangement that is private or domestic in nature.

Consequently, all of the payments received for your electricity generated and sold to the electricity grid are not considered assessable income.

As a result any expenditure incurred in producing the receipts from the sale of the electricity generated to the electricity grid is not deductible. You would not be able to claim deductions for decline in value maintenance and repairs.

However, if there were an increase in the size or scale of the activity in which you are engaged, or an increase in the payments / credits received or the regularity of the payments, this might indicate the payments were ordinary income and therefore assessable.

Sale of RECs

When you purchased the solar system, you acquired two separate assets being the solar system and the statutory right to create RECs. You created the RECs and you propose to dispose of the RECs separately.

When you dispose of the RECs and sell them a CGT event A1 will occur at this time. Any capital gain or loss will be calculated by subtracting your cost base from your capital proceeds

You did not pay an amount to acquire the right to create the RECs and as such, there is no amount for the first element of your cost base.

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 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 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 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, 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'.