Edited version of your private ruling

Authorisation Number: 1012503564590

Ruling

Subject: Capital Gains Tax - Grant of Lease

Question

Will the premium paid due to the existence of an income stream from the leased telecommunications facility on the acquisition of the subject land form part of the cost base for the purposes of section 104-115 of the Income Tax Assessment Act 1997?

Answer

No.

This ruling applies for the following periods:

Year ended 30 June 2014

Year ended 30 June 2015

Year ended 30 June 2016

Year ended 30 June 2017

The scheme commences on:

1 July 2013

Relevant facts and circumstances

The taxpayer acquired the property together with an adjoining residential property after 19 September 1985.

The total area of the properties is greater than 2 hectares of which 2 hectares is residential and the balance is non-residential with a telecommunications facility occupying part of the non-residential property.

The telecommunications facility was in existence at the time of acquisition and leased to the Company for a 5 year period with further options to extend the lease. Annual rental for the subject land at the time of acquisition was paid.

Just after the purchase settlement, the taxpayer engaged an independent registered valuer to complete a valuation of the property. The purpose of this valuation was to apportion the purchase consideration between the residential and non-residential components of the overall property. This valuation attributed a total of $XXX as the purchase price of the non-residential component.

Further it was determined that the amount that could be apportioned in respect of the subject land for the communications facility was $XXX.

The taxpayer has received a proposal from the Company for the acquisition of the leased area. Total consideration excluding GST is $XXX for a lease covering a term of 99 years. Due to the operation of the relevant state law, the 99 year lease will be documented as three 10 year sequential registered leases and a licence for the balance 69 years. Existing registered leases will be surrendered.

The first lease will cover the first 10 years.

Sequential leases will be entered into at the same time as the first lease and will cover the period following the expiration of the first lease.

Rent is paid in a lump sum amount at the commencement of each lease.

The Company will not acquire the reversionary interest in the land.

Relevant legislative provisions

Section 104-110 of the Income Tax Assessment Act 1997

Section 104-115 of the Income Tax Assessment Act 1997

Section 160ZU of the Income Tax Assessment Act 1936

Subsection 160ZSA(3) of the Income Tax Assessment Act 1936

Paragraph 160ZSA(3)(a) of the Income Tax Assessment Act 1936

Reasons for decision

One of two capital gains tax (CGT) events happens when a lease over land is granted. CGT event F1 will happen if a lessor grants a lease over land (section 104-110 of the Income Tax Assessment Act 1997 (ITAA 1997)). Alternatively, CGT event F2 will happen if a lessor grants a long-term lease over land (subsection 104-115(1) of the ITAA 1997). For the purposes of CGT event F2, a long-term lease over land is one where:

· the lease is for at least 50 years; and

· at the time the lease is granted it is reasonable to expect that the lease will continue for at least 50 years; and

· the terms of the lease as they apply to the lessee are substantially the same as those under which the lessor owned the land; and

· the lessor chooses the grant of the lease to be a CGT event F2 rather than a CGT event F1

The taxpayer is the owner of the land. The taxpayer will grant to the lessee a lease of the subject land. The lease will cover a period of 99 years through three sequential leases of 10 years each, followed by a licence for 69 years. CGT event F1 or F2 will occur at the time of the lease being entered into. The taxpayer will be able to choose the grant of the lease to be a CGT event F2 if at the time the lessor grants the lease it is reasonable to expect that the lease will continue for at least 50 years and the terms of the lease as they apply to the lessee are substantially the same as those under which the lessor owns the land.

The first pre-condition to making the choice is that at the time the lease is granted it is reasonable to expect that the lease will continue for at least 50 years. The words reasonable to expect were used in paragraph 160ZSA(3)(b) of the Income Tax Assessment Act 1936 (ITAA 1936), the progenitor of the sub paragraph 104-115(1)(b)(i) of the ITAA 1997. In the explanatory memorandum to the Tax Law Amendment Bill (no. 4) 1989, which inserted paragraph 160ZSA(3)(b) of the ITAA 1936, the Treasurer said:

Paragraph (3)(b) requires that at the time the new lease was granted, it was reasonable to expect that the new lease would continue for at least 50 years. The reasonable expectation requirement means that the duration of a lease will be determined at the time the lease was granted. Thus, a lease will not be an eligible long term lease in circumstances where the lease is for a term of more than 50 years but includes a provision for the termination of the lease on the occurrence of an event which is likely to occur before 50 years have elapsed.

Where any of the terms of a new lease render it unlikely that the lease will continue beyond a certain date before the expiry of the term of the lease, then it would not be reasonable to expect that the new lease would continue beyond that date. For example, this could occur where the lease provides for the lessee's obligations to become more onerous or for the lessee's rights to diminish after a given date (but the lease includes provision for the lessee to terminate the lease in that event) and those provisions render it unlikely that the lease would continue beyond that given date.

…

Furthermore, where a new lease contains a term providing that the lease may be determined by the lessor giving notice, then ordinarily it would not be reasonable to expect that the lease would continue beyond the earliest date upon which the lease may be determined by the lessor giving such notice.

Paragraph (3)(a) requires that the new lease be granted for a term of at least 50 years. In this context it should be noted that existing section 160ZU (later replaced by subsection 104-115(3) of the ITAA 1997) provides that the renewal or extension of a lease is to be treated, for capital gains tax purposes, as the grant of a fresh lease by the lessor immediately after the time when the lease that is being renewed or extended would have expired.

In this case, the period of the proposed lease will be covered by three 10 year leases followed by a 69 year licence. Each lease will be a new lease for capital gains tax purposes.

CGT event F2 requires that at the time the lease is granted, it is reasonable to expect that the new lease would continue for at least 50 years. As each lease is for a period of less than 50 years and each lease constitutes a new lease for the purpose of capital gains tax, the arrangement will not be a long term lease for the purposes of section 104-115 of the ITAA 1997.

Therefore, as section 104-115 of the ITAA 1997 will not apply in this situation, the premium paid due to the existence of an income stream from the leased telecommunications facility on the acquisition of the subject land will not form part of the cost base of the land subject to the lease arrangement.