Edited version of your private ruling

Authorisation Number: 1012457611035

Ruling

Subject: Tax consequences of installation of solar panels

Question 1

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

Answer

Yes.

Question 2

Is the discount received on the purchase price of the photovoltaic solar system for the assignment of the Small-scale Technology Certificates (STCs) to your solar installer, considered assessable income?

Answer

Yes.

Question 3

Are the costs associated with the solar system, such as maintenance and depreciation, deductible under section 8-1 or 8-5 of the ITAA 1997?

Answer

Yes, to the extent they are not capital or private or domestic in nature.

This ruling applies for the following periods:

Year ended 30 June 2012

Year ended 30 June 2013

Year ended 30 June 2014

Year ended 30 June 2015

The scheme commences on:

1 July 2011

Relevant facts and circumstances

You have a large property from which you conduct a business. A small area of the property is used for business, with the remaining being used for private purposes.

You were granted approval from your electricity supplier under a government solar bonus scheme for the installation of a X KVA solar system.

The electricity account is in your name.

You acquired and installed a ground mounted Y KVA solar system, and an additional Y KVA system may be installed at a later date.

The solar system is a net metering system. Of the electricity produced, a portion is used for private and business purposes and the remainder is exported to the grid. Of the portion of the electricity used, approximately 80-90% is used for private purposes and the remaining 10-20% is used for income producing purposes relating to the business.

The partnership sold its right to create STCs to the installer. The price paid for the right to create the STCs was deducted from the full purchase price.

The solar system was installed to help reduce greenhouse emissions and to minimise your electricity bills.

You were aware that by installing the 10KVA system you would generate more electricity than you would use, and would receive income from the quarterly feed-in tariff in excess of what you used.

The government provides for a net feed-in tariff solar scheme (the scheme). Under the scheme, owners of eligible renewable energy systems are paid for energy exported to the grid that is in excess of the household consumption at the time of generation as recorded by the meter.

The tariff is applied on net electricity exported to the grid. Your electricity provider pay per kilowatt hour for electricity exported to the grid.

Based on the generation and consumption figures provided for the year, you received substantial credit on your electricity account.

The credit, and future credits for electricity generated, may be applied to offset your future electricity expenses. You are also able to receive a separate direct payment either by cheque or direct deposit into a bank account from your electricity provider on an annual basis, or upon request, on a quarterly basis.

The solar system 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.

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 section 8-1

Income Tax Assessment Act 1997 section 8-5

Income Tax Assessment Act 1997 section 25-10

Income Tax Assessment Act 1997 section 20-25

Income Tax Assessment Act 1997 subsection 20-25(1)

Income Tax Assessment Act 1997 paragraph 20-25(1)(b)

Income Tax Assessment Act 1997 subsection 20-20(2)

Income Tax Assessment Act 1997 section 20-40

Income Tax Assessment Act 1997 section 40-25

Reasons for decision

Unless otherwise stated, all legislative references in the following relate to the ITAA 1997.

Assessable income

Assessable income is made up of ordinary income and statutory income. Section 6-10 provides that assessable income includes statutory income which constitutes amounts made assessable by specific statutory provisions. There are no specific legislative provisions relating to money or credits received from electricity suppliers therefore such amounts are not statutory income.

Subsection 6-5(1) defines ordinary income as income 'according to ordinary concepts'. Under subsection 6-5(2), the assessable income of an Australian resident includes the ordinary income derived directly or indirectly from all sources during the income year.

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:

· 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

· whether the payment received is income depends upon a close examination of all relevant circumstances

· 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

· 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 at 4420; (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. In addition, receipts from property or investments that are on commercial terms and/or that indicate an intention to make a profit from an activity are also likely to be ordinary income.

A solar system is considered to be the property of its owner. Receipts received in connection with it, therefore, are potentially assessable income. Consequently, it needs to be determined, in light of the nature and the circumstances of the receipt whether the payments or credits received in return for transfer of electricity to the grid are income.

In determining whether or not the payments are assessable 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. The following are important:

· the terms of the arrangement with the electricity retailer and in particular any requirement on the retailer to buy all electricity that is generated from the system (as occurs under a gross feed in tariff 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

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

Amounts that you receive as a recoupment of a deductible expense (that is the financial benefit arising from the STCs which offset the cost of the system) may potentially also be included in your assessable income.

Assessable recoupment

Under Subdivision 20-A, your assessable income may include an amount which 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 (ie expense) in respect of installing and owning that system.

Under the REE Act, if you install an eligible solar system on your private residence, you have a statutory right to create STCs after the system is installed. You can assign that right to another person, for example the installer of the system, or you may create the STCs and sell them on the market.

Assigning the right to create STCs to another entity (such as the installer) is considered to result in a financial benefit to you. Effectively, the financial benefit is the reduction in the amount which you would otherwise pay for the purchase and installation of the solar system. In effect that reduction is the price discount which the installer offers you in return for surrendering the STCs to them.

The STCs are effectively a financial incentive given to you to purchase the system. The amounts received in respect of the STCs are considered to be an 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. Where you can deduct an amount for the decline in value of the solar system under Division 40 (as outlined above), the recouped amount in respect of the STCs is an assessable recoupment.

Where the cost of the solar system is deductible under Division 40 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 until it has been fully accounted for.

By way of clarification, consider the following example:

On 1 July 2009, a taxpayer installed on the roof of his private residence a 10 kilowatt solar system costing $60,000. He received the right to create STCs to the value of $12,000. He assigned them to the installer, resulting in a reduction in the price paid for the solar system to $48,000.

The taxpayer claims the decline in value of his solar system using the prime cost method and an effective life of twenty years. He can claim a deduction for decline in value of the system of $3,000 for the 2009-10 financial year and each of the following 19 financial years (being $60,000/20).

He received the right to STCs to the value of $12,000 and that is considered to be an assessable recoupment. As his deduction for decline in value of the system is $3,000 each year, he will include an assessable recoupment of $3,000 each year in his assessable income for the first four income years. The total value of the STCs will then be fully recouped. In subsequent years, the deduction can still be claimed but with no off-setting recoupment.

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 discusses when the right to create STCs is an assessable recoupment, again in the context of rental properties.

Deductions

The general provision that determines the deductibility of expenses is section 8-1. Under section 8-1 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 are made allowable by section 8-5. Examples of specific deductions include repairs under section 25-10 and deductions for the decline in value of depreciating assets under section 40-25.

Repairs and maintenance

Under section 25-10 you can deduct expenditure you incur in respect of repairs and maintenance to the solar system. That is because the expense is incurred in deriving assessable income from the system.

Under subsection 25-10(3) expenditure incurred for repairs is not deductible if it is of a capital nature. For further information regarding the deductibility of repairs see Taxation Ruling TR 97/23 Income tax: deductions for repairs.

Decline in value

For assets that are capital in nature, you cannot claim deductions under section 8-1. 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, each income year you can deduct an amount equal to the decline in value 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. Where it is used in producing assessable income a solar system would fall into that category.

You must reduce any applicable 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 but private usage is not.

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

Taxation Ruling TR 2012/2 Income tax: effective life of depreciating assets provides a table listing the effective life of depreciating assets. In accordance with TR 2012/2 the effective life of solar power generating system assets that are on residential property is twenty years.

Generally speaking, the cost of a solar system is those amounts which you are taken to have paid to hold the solar system, such as the purchase price and its associated installation and connection costs. It is worked out as at the time that you begin to hold the solar system; in other words, when it is installed and ready for use. The cost 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 Guide to depreciating assets 2011-12 which is available from www.ato.gov.au.

Apportionment of deductions for private and domestic usage

A net feed in tariff scheme 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. Where income received under a net feed in tariff scheme is assessable, any expenses incurred in generating the assessable income will need to be apportioned to take into account expenses incurred for electricity generated for private and domestic purposes. For example, one method to apportion will be to reduce the deduction by the percentage of electricity consumed by the household divided by total electricity generated by the system.

Application to your situation

Under the scheme operating in your state you would receive credits whenever your electricity generation exceeds your household consumption at intervals during the day, as recorded by your meter. The credit will be applied to your electricity account. After a period, you may be able to make arrangements with the retailer to be paid out for any remaining credits on your account.

The scheme is connected with the electricity needs of the householder as:

· the solar system is configured into the electricity system of the home, and

· the solar system primarily supplies electricity to the home and satisfies the electricity consumption of the householder before exporting excess electricity to the grid.

However based on your factual circumstances, it is considered that the credits you would receive on your electricity account (or payment for credits) are ordinary income because:

· the scheme is more than private or domestic nature, this being demonstrated by

o the size of the system you have chosen to install is quite sizeable and has a capacity in excess of the needs of a typical household

o the amount of electricity generated by the system being significantly greater than the domestic consumption requirements of your household. In particular:

- you expect to generate excess electricity from the solar system. Only a small portion will be used for personal consumption in your private residence, the excess will be transferred to the electricity grid

- the credits you would receive for excess electricity do more than offset the cost of your electricity and represent a return on investment for the system, and

o there is a realistic opportunity for you to profit from the arrangement.

Consequently, any credits (and payment of credits) received for the electricity generated by the solar system and sold to the electricity grid would be considered to be assessable income.

As the payments received for the electricity generated are assessable income, the expenditure incurred in producing the income from the sale of the electricity generated to the electricity grid would be deductible to the extent it were not private or domestic in nature. You may be entitled to deductions for the installation and operating expenses of the solar system, such as for:

· repairs and maintenance of the solar system

· decline in value of the solar system based on twenty year effective life or some other effective life you have determined for the solar system in accordance with TR 2012/2 and the Guide to depreciating assets 2012).

You would be required to apportion your deductions to take into account expenses incurred in generating electricity consumed by your household, as this will have a private and domestic character.

This ruling does not consider the issues relating to any potential capital gains tax or goods and services tax consequences.