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Ruling

Subject: Income - Grants

Question 1

Is the government grant for capital funding for the construction and outfitting of the subject facility considered assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

Question 2

Is the government grant for capital funding for the construction and outfitting of the facility considered assessable income under section 15-10 of the ITAA 1997?

Answer

No

Question 3

Is the government grant for capital funding for the construction and outfitting of the facility considered assessable under the capital gains tax (CGT) provisions of the ITAA 1997?

Answer

No.

Question 4

Would a portion of the grant be assessable under section 20-20 of the ITAA 1997 to the extent that it is not ordinary income or statutory income and is used to meet an outgoing or expenses that are deductible under a provision listed in section 20-30 of the ITAA 1997?

Answer

Yes

This ruling applies for the following periods:

Year ended 30 June 2011

Year ended 30 June 2012

The scheme commences on:

1 July 2010

Relevant facts

You operate a business.

You applied for government funding in respect of a program.

The funding was for a particular purpose.

The program provided one-off funding to support establishment and start up costs associated with an activity.

The funding/grant subject to this ruling was for capital works, as an addition to an existing business.

A copy of the funding agreement forms part of the facts of this ruling.

Funding was to be received at the completion of certain milestones

If you failed to comply with any of its obligations under the agreement, you may have to repay the relevant amount.

You received 'capital' funding payments on various dates.

The new facility will consist of capital works and associated equipment.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 6-10

Income Tax Assessment Act 1997 Section 10-5

Income Tax Assessment Act 1997 Section 15-10

Income Tax Assessment Act 1997 Subsection 20-20(3)

Income Tax Assessment Act 1997 Section 20-40

Income Tax Assessment Act 1997 Section 104-25

Income Tax Assessment Act 1997 Paragraph 118-37(2)(a)

Income Tax Assessment Act 1997 Subsection 110-45(3)

Reasons for decision

Note, unless otherwise stated all subsequent legislative references pertain to the ITAA 1997.

Question 1

A payment or other benefit received by a taxpayer is included in assessable income if:

· It is income according to ordinary concepts in terms of section 6-5, or

· If not ordinary income it may be included in your assessable income because it is caught under the general 'statutory income' provisions in section 6-10, as listed in section 10-5. Included in the list in section 10-5 are bounties and subsidies (section 15-10).

Ordinary Income

The intent of section 6-5 is to include in assessable income those receipts which can be categorised as income according to ordinary concepts.

Although the expression 'income according to ordinary concepts' is not defined in the ITAA 1997, there is a substantial body of case law from which a number of factors have been drawn to determine whether an amount has the character of income according to ordinary concepts.

A frequent characteristic of income receipts is an element of periodicity, recurrence or regularity, even if the receipts are not directly attributable to services rendered.

ATO policy concerning government payments to industry (GPI) is set out in Taxation Ruling TR 2006/3 Income Tax: government payments to industry to assist entities (including individuals) to continue, commence or cease business. At paragraph 84, it provides that ordinary income generally falls within three categories:

· Income from providing personal services,

· Income from property, or

· Income from carrying on a business.

Application to your circumstances

The grant does not constitute ordinary income. Whilst the payments will be paid in separate instalments, they are once-only, lump-sum payments and lack the regularity that typifies ordinary income.

Further, in terms of TR 2006/3 the payments do not constitute income from the provision of personal services, are not sourced from property, and have not been derived directly from any existing business activity.

Question 2

Bounty or Subsidy

Section 15-10 provides that an amount is included in assessable income if it is:

· a bounty or subsidy;

· received in relation to carrying on a business; and

· not assessable as ordinary income under section 6-5.

Following the decisions in The Squatting Investment Co Ltd v. Federal Commissioner of Taxation, Reckitt & Colman Pty Ltd v. FC of T and First Provincial , it is now well accepted that a 'bounty' or 'subsidy' includes a financial grant made by a government. Payments under the program qualify as a bounty or subsidy.

'In relation to'

A grant 'will be "in relation to" carrying on a business when there is a real connection between the payment and the business. The term "in relation to" includes within its scope payments that have a direct or indirect connection to the business…' (Paragraph 100 of TR 2006/3)

To be assessable under section 15-10 the subsidy must relate to the 'carrying on' of the business, not merely to the commencement or cessation of it. The First Provincial case illustrates that the expression 'carrying on of the business' is limited to the activities of the business which are directed towards the gaining or producing of assessable income rather than merely to the business itself. (Paragraph 101 of TR 2006/3)

Assistance paid to a successful applicant to develop an existing business is a bounty or subsidy received in relation to the carrying on of a business for the purposes of section 15-10.

However, some business restructures may not be in relation to carrying on a business, for example if a business changes its structure to facilitate a new activity …' (emphasis added). This is decided on the merits of each case. (Paragraph 102 of TR 2006/3)

Application to your circumstances

The grant does not constitute an assessable bounty or subsidy.

You applied for the government funding and then constructed the new facility. You will own the land and buildings and will be operating the business.

With regard to the use of the funding, we find that it is not used in relation to:

· increasing the efficiency of the existing business; or

· the actual carrying on or trading of the business activity

Taking into account the program requirements and the obligations undertaken as required under the funding agreement, you necessarily changed the scope and nature of your business activities. The existing business changed its profit-making structure to facilitate a new activity, in accordance with paragraph 102 of TR 2006/3.

The capital works funding was received for expenditure that was preliminary to the actual carrying on of the newly established business activity. It was paid solely in relation to the capital costs associated with the construction of the extension which was incurred and finalised prior to the commencement of the carrying on of the new activities.

Therefore, because it was not received 'in relation to carrying on' the original business the capital works funding received under the program is not assessable under section 15-10.

Question 3

CGT exemption under paragraph 118-37(2)(a)

An entitlement to receive grant monies under the program is a CGT asset under subsection 108-5(1) of the ITAA 1997 that is acquired when the applicant signs the agreement.

CGT event C2 happens under section 104-25 of the ITAA 1997 when a recipient's entitlement to receive the grant is satisfied. The time of the CGT event under subsection 104-25(2) of the ITAA 1997 is when the payment is made.

However, paragraph 118-37(2)(a) of the ITAA 1997 provides a CGT exemption for a capital gain that results from receiving a payment as reimbursement or payment of your expenses under a scheme established by an Australian government agency or local governing body.

In relation to this paragraph, the Revised Explanatory Memorandum (EM) in relation to the Tax Laws Amendment (2006 Measures No. 3) Act 2006 provides that the requirement that 'the scheme be established under an enactment or an instrument of a legislative character would be satisfied where the scheme is established that way either expressly or by necessary implication. An enactment would include an Appropriation Act (or equivalent) having regard to associated documentation such as budget papers. An instrument of a legislative character would include regulations (and similar instruments) and local government by-laws.'

Application to your circumstances

Under the program, rights are created to receive payments upon the completion of several milestones. These rights were satisfied under CGT event C2 when the payments were made.

You will make a capital gain equal to the difference between the capital proceeds and the cost base of the rights.

However, we find that the program meets the requirements of paragraph 118-37(2)(a) as outlined in the revised EM and the grant complies because it is a payment received as reimbursement or payment of expenses incurred in relation to the program.

Therefore, any capital gain made by you from the C2 CGT event will be disregarded under paragraph 118-37(2)(a).

Cost Base Reduction

Although there is no capital gain at the time, there are capital gain consequences when the property is eventually disposed of. To the extent that the grant is received to fund the cost of purchasing land and buildings or for constructing or renovating buildings, it is a recoupment of those costs. This recoupment reduces the cost base of the property as per subsection 110-45(3).

Question 4

Whether an assessable recoupment

Recoupment is a defined term and has the meaning given by subsection 20-25(1) of the ITAA 1997. Under paragraph 20-25(1)(b), a recoupment of a loss or outgoing includes a grant in respect of the loss or outgoing.

If the cost of a depreciating asset is deductible under Division 40 over two or more income years, section 20-40 applies so that the total of assessable recoupments to be included in assessable income at a particular time is limited to the total amount of the loss or outgoing that can be or has been deducted at that time. Any part of an assessable recoupment that is not included in assessable income in the year of receipt because of this limit is assessable in later income years to the extent that further amounts are deductible under Division 40 for the depreciating asset in the later income years.

Application to your circumstances

The grant was spent partly on equipment associated with the facility.

To the extent that the grant was used to fund the cost of depreciating assets, such as equipment used to fit out the facility, it is an assessable recoupment under subsection 20-20(3).