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Ruling

Subject: Deduction on water facility

Question 1

Is the expenditure that the entity incurred considered to be expenditure on a water facility pursuant to section 40-520 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Can the entity deduct amounts equal to the decline in value for an income year for expenditure incurred on a water facility pursuant to paragraph 40-515(1)(a) of the ITAA 1997 which is calculated in accordance with section 40-540 of the ITAA 1997?

Answer

Yes

This ruling applies for the following periods:

1 July 2011 - 30 June 2012

1 July 2012 - 30 June 2013

The scheme commences on:

1 July 2011

Relevant facts and circumstances

The entity carries on a primary production business in Australia.

In 2012 and 2013 financial years, the entity incurred expenditure on irrigation systems, dams, gutters, condensation collectors.

Irrigation system:

The drip irrigation system is an irrigation method that saves water and fertilizer by allowing water to drip slowly directly onto the roots of plants through a network of valves, pipes, tubing and emitters. Subsurface drip irrigation system uses recycled municipal waste water, collected condensed water and collected rain water. The system is able to deliver minimum amount of water by absorption by roots hence ensuring water is conserved.

Gutters

The gutters are narrow aluminum ducts that collect run-off water of rainfall from the catchment area and delivers water through the system of drains and pipes to the water storage facilities comprising holding tanks and the dam. Gutters provide means to collect rainwater for later use.

Water storage dam

Water storage dam acts as a collector of water from gutters and town water system.

Condensation collectors

The condensation collectors comprise of glass planes, collection gutters, collection down pipes, collection connection pipes and tanks that are specifically designed and constructed to utilise condensation to collect water for re-use.

The evaporated water is transformed into water droplets from the vapour stage through condensation which is collected in special gutters built under the glass pane's lowest connection point.

The condensed water is then delivered through a variety of pipes to condensed water holding tanks. The water is cleaned from chemicals and pollutants through filters and re-used in the irrigation system as required.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 40-520

Income Tax Assessment Act 1997 section 40-540

Reasons for decision

Summary

The expenditure that the entity incurred on irrigation systems, dam, gutters and condensation collectors is considered to be expenditure on a water facility pursuant to subsection 40-520(1) of the ITAA 1997.

Detailed reasoning

Under subsection 40-520(1) of the ITAA 1997 a 'water facility' is defined as:

· plant or a structural improvement that is primarily and principally used for the purpose of conserving or conveying water, or

· a structural improvement, or an alteration, addition or extension that is reasonably incidental to conveying or conserving water.

Examples of a water facility that are specifically stated in the legislation include a tank, irrigation channel, pipe and pump.

The meaning of 'plant' is stated in section 45-40 of the ITAA 1997 and extends the definition to include articles, machinery, tools and rolling stock.

In Taxation Ruling No. IT 2394 Income tax: Expenditure on irrigation and water and land conservation the meaning of 'plant or structural improvement' was discussed in relation to section 75B of the Income Tax Assessment Act 1936 (ITAA 1936) which is the predecessor to paragraph 40-520(1)(a) of the ITAA 1997. However, the test remains the same. In IT 2374 at paragraph 3, the term 'plant or a structural improvement' included a 'dam, earth, tank, underground tank, concrete tank, metal tank, stand for a tank, bore, well, irrigation channel or similar improvement, pipe, pump, water tower and windmill'.

Tax Law's Amendment (2004 Measures No. 6) Act 2005 extended the meaning of a 'water facility' in subsection 40-520(1) by including a 'structural improvement, or a repair of a capital nature, or an alteration, addition or extension, to a structural improvement that is reasonably incidental to conserving or conveying water'. The question of whether an item of capital expenditure is reasonably incidental to conserving or conveying water depends on the facts and circumstances. To clarify, examples were included in subsection 40-520(1). The examples of things listed as being reasonably incidental to conserving or conveying water included a culvert, a fence to prevent livestock entering an irrigation channel and a bridge over an irrigation channel.

Each of the stated items that the entity incurred expenditure will be examined to determine whether they are a water facility pursuant to subsection 45-520(1) of the ITAA 1997.

Irrigation system

The irrigation system is used in the entity's primary production business and is an item of 'plant' as defined in section 45-40 of the ITAA 1997. It is also specifically provided as an example in subsection 40-520(1) of the ITAA 1997.

To determine whether the irrigation system is a water facility, the test in paragraph 40-520(1)(a) requires it to be primarily or principally for the purpose of conserving or conveying water.

Tax Determination TD 94/9 Income tax: whether a fruit grower is entitled to a tax deduction under section 75B or section 75D for the cost of changing to a different watering system which has a secondary purpose of preventing or combating land degradation? states that the test requires an examination of the primary and principal function or purpose of the result produced by incurring the expenditure. Although, TD 94/9 deals with former section 75B of the ITAA 1936, there have been no changes to the test.

The irrigation system is an irrigation method that saves water and fertiliser by allowing water to drip slowly directly into the roots of plants through a network of valves, pipes, tubing and emitters. The system is able to deliver minimum about of water by supplying just the right amount of water at the right frequency to ensure a maximum absorption by roots, ensuring water is conserved.

Is considered that the primary and principal function of the irrigation system is to deliver water from the holding tanks and dam directly to the roots of the plants in an efficient way that minimises water wastage.

Therefore, the expenditure on the drip irrigation system is considered to be expenditure on a water facility under paragraph 40-520(1)(a) of the ITAA 1997 as it primarily and principally used for the purpose of conserving or conveying water.

Water storage dam

The water storage dam is used in the entity's primary production business and is an item of 'plant' as defined in section 45-40 of the ITAA 1997. A 'dam' is also specifically included as an example in subsection 40-520(1) of the ITAA 1997.

The dam collects run-off water from gutters and the town's water system. It is also used to store, retain and stop the flow of water.

It is considered that the primary and principal function or purpose of the dam is to conserve water.

Therefore the expenditure on the water storage dam is considered to be expenditure on a water facility under paragraph 40-520(1)(a) of the ITAA 1997 as it primarily and principally used for the purpose of conserving water.

Gutters

The gutters are used to collect run-off water from the roof and delivers water through the system of drains and pipes to the water storage facilities comprising holding tanks and the dam. It is considered that the gutters are a 'plant or structural improvement' consistent with the examples provided in subsection 40-520(1) of the ITAA 1997.

It is considered that the primary or principal function or purpose of the gutters is to collect run-off water and direct it through the system of downpipes to the water storage tanks and dam. It is therefore evident that the gutters are used to conserve water for later use.

Consequently, the expenditure incurred on the gutters is considered to be expenditure on a water facility under paragraph 40-520(1)(a) of the ITAA 1997 as it primarily and principally used for the purpose of conserving water.

Condensation collectors

The condensation collectors comprise of glass planes, collection gutters, collection down pipes, collection connection pipes and tanks that are specifically designed and constructed to utilise condensation to collect water for re-use. The evaporated water is transformed into water droplets from the vapour stage through condensation which is collected in special gutters built under the glass pane's lowest connection point.

The condensed water is then delivered through a variety of pipes to condensed water holding tanks. The water is cleaned from chemicals and pollutants through filters and re-used in the irrigation system as required.

The expression 'reasonably incidental to' is discussed in ATO Interpretive Decision ATO ID 2009/32 Income Tax Capital Allowances: water facility- reasonably incidental to conserving or conveying water and examines its meaning according to case law. ATO ID 2009/32 states:

…in the view of the courts whether something is 'reasonably incidental to' another thing is a question of fact and degree. The use of the expression 'reasonably incidental to' suggests that the incidental thing must be reasonably capable of being seen as appropriate and adapted to achieving the purpose of, and to aid the function of, the other, and that the interaction between the two must be a clear and generally accepted connection between the two things; and that this connection must be one of some substance, and not a general facilitation or minor effect of one on the other.

It is considered that the condensation collection system is primarily used to transform evaporated water into water droplets so that it can be re-used in the irrigation system. It is clear there is a substantial connection between the condensation collectors and conserving and conveying water. The water collected through the condensation collectors is directed back to the irrigation system to convey and conserve water for the entity's primary production business.

Therefore, it is considered that the condensation collectors and its components are reasonably incidental to conserving and conveying water pursuant to paragraph 40-520(1)(b) of the ITAA 1997.

Question 2

Summary

The entity can claim a deduction equal to the decline in value for an income year for expenditure incurred on a water facility pursuant to paragraph 40-515(1)(a) of the ITAA 1997, calculated in accordance with section 40-540 of the ITAA 1997.

Detailed reasoning

Paragraph 40-515(1)(a) of the ITAA 1997 allows a deduction for an income year equal to the decline in value of a depreciating asset that is a water facility. The deduction for the decline in value of a water facility is worked out in equal instalments over three income years under section 40-540 of the ITAA 1997.

The expenditure that was incurred on the drip irrigation system, dam, gutters and condensation collectors are considered to be expenditure on a water facility according to subsection 40-540(1) of the ITAA 1997.

However, in order to claim a deduction for the decline in value of a water facility, the conditions in subsection 40-525(1) of the ITAA 1997 must be satisfied:

40-425(1) The capital expenditure you incurred on the construction, manufacture, installation or acquisition of the water facility must have been incurred:

· primarily and principally for the purpose of conserving or conveying water for use in a primary production business that you conduct on land in Australia; or

· for expenditure incurred by an irrigation water provider - primarily and principally for the purpose of conserving or conveying water for use in primary production businesses conducted by other entities on land in Australia, being entities supplied with water by the irrigation water provider.

It is considered that conditions in paragraph 40-425(1)(a) are satisfied, as the water facility will be primarily and principally used for the purpose of conserving or conveying water for use in a primary production business that is conducted on land in Australia.

Therefore, a deduction equal to the decline in value of the water facility, worked out in accordance to section 40-540 of the ITAA 1997, is available under paragraph 40-515(1)(a) of the ITAA 1997.