Edited version of your private ruling

Authorisation Number: 1012573369305

Ruling

Subject: Capital gains tax on the granting of an easement

Questions and answers

1. Are the proceeds received in compensation for the acquisition of an easement over your land assessable as ordinary income?

No.

2. Are the proceeds received in compensation for the acquisition of an easement over your land assessable as an insurance or indemnity for the loss of an amount?

No.

3. Are the proceeds received in compensation for the acquisition of an easement over your land assessable under the capital gains tax (CGT) provisions?

Yes.

4. Is the acquisition date of the asset the date of entering into the contract to grant the easement?

Yes.

5. Are you entitled to the 50% discount small business concession?

Yes.

This ruling applies for the following periods

Year ending 30 June 2014

The scheme commences on

1 July 2013

Relevant facts and circumstances

You operate a business and own land.

An easement will be granted to a third party over part of the land.

The land will remain as part of the property and will only grant a right of entry. The land will still be used as part of the business.

You will receive compensation in relation to the easement over the land.

You meet the basic conditions in Division 152 of the Income Tax Assessment Act 1997 (ITAA 1997) for the small business concessions as you are a partner in a partnership that is a small business entity and you meet the active asset test as the land is used in the running of your business.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-35

Income Tax Assessment Act 1997 subsection 104-35(3)

Income Tax Assessment Act 1997 section 108-5

Income Tax Assessment Act 1997 Division 152

Income Tax Assessment Act 1997 section 152-10

Reasons for Decision

Ordinary Income

Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) states that the assessable income of a resident taxpayer includes ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

Ordinary income is income according to ordinary concepts which is not specifically defined in the legislation. However, characteristics of ordinary income that have evolved from case law include receipts that:

• are earned

• are expected

• are relied upon, and

• have an element of periodicity, recurrence or regularity. 

In your case the payment that you have received is not ordinary income as you are not receiving payments on a regular basis and the payment has not been earned.

Statutory Income and capital gains 

Section 6-10 of the ITAA 1997 provides that amounts that are not ordinary income but may be assessable under another provision are called statutory income.

Section 15-30 of the ITAA 1997

Income included under Section 15-30 of the ITAA 1997 is an example of statutory income. This section operates to include in your assessable income any amount received by way of insurance or indemnity for the loss of an amount if:

a)       the lost amount would have been included in your assessable income and

b)       the amount you receive is not assessable under 6-5 of the ITAA 1997.

In your case, the payment you received does not represent a loss as it is for the right to access your land and therefore does not fall within the above section.

Capital gains

Receipt of a lump sum payment may give rise to a capital gain (another form of statutory income) as a right to seek compensation is an asset for capital gains tax (CGT) purposes and the cancellation or surrendering of such a right is a CGT event.

A capital gain or a capital loss may arise if a CGT event happens to a CGT asset. Section 108-5 of the ITAA 1997 provides that a CGT asset is any kind of property, or a legal or equitable right that is not property. An easement is a right over someone else's land or property. Therefore, the easement over your property is a CGT asset.

Paragraph 34 of Taxation Ruling 95/35 Income tax: capital gains: treatment of compensation receipts (TR 95/35) states that:

We consider that the right to seek compensation is an asset for the purposes of the CGT provisions.

A compensation receipt, or compensation, includes any amount (whether money or other property) received by a taxpayer in respect of a right to seek compensation or a cause of action, or any proceeding instituted by the taxpayer in respect of that right or cause of action, whether or not:

· in relation to any underlying asset;

· arising out of Court proceedings; or

· made up of dissected amounts.

The 'look-through' approach is the process of identifying the most relevant asset. It requires an analysis of all of the possible assets of the taxpayer in order to determine the asset to which the compensation amount is most directly related.

In your case, the money you received was paid as compensation for the third party to have access to your land and the easement over the land. The relevant asset, in this case, is your property.

The Commissioner's policy in respect of easements is that they are not a part disposal of the original land; rather they are a creation of a new interest in the land (Taxation Ruling IT 2561) and therefore TR 95/35 is not applicable in your circumstances as a new interest has been created.

CGT event D1 happens when you create a contractual right or other legal or equitable right in another entity. Under section 104-35 of the ITAA 1997, the time of the event is when you enter into the contract or create the right. This is also the acquisition date of the asset.

A capital gain or capital loss is made at the time of the event. You make a capital gain if the capital proceeds received from the creation of the right are more than the incidental costs you incurred that relate to the event and similarly, you make a capital loss if those capital proceeds are less (subsection 104-35(3) of the ITAA 1997).

In your circumstances, the time of the D1 event was when the easement was granted. The capital proceeds are your share of the amount received as compensation.

Accordingly, you will make a capital gain on the granting of the right if the capital proceeds for the easement exceed your incidental costs and a capital loss if your capital proceeds are less than your incidental costs. Any capital gain is assessable as statutory income.

Small business concessions

The concessions reduce the capital gain on business assets that you must include in your assessable income.

You must first satisfy the basic conditions that apply to all the CGT concessions for small business. You must then satisfy any additional conditions that apply specifically to the individual concessions.

You can apply as many concessions as you are entitled to until the capital gain is reduced to nil.

There are four small business concessions: 

· Small business 15 year exemption

· Small business 50% active asset reduction

· Small business retirement exemption

· Small business rollover.

Basic conditions 

To qualify for any of the small business concessions there are basic conditions that must be satisfied under section 152-10 of the ITAA 1997.

You must first satisfy at least one of the following conditions: 

· you are a small business entity

· you satisfy the maximum net asset value test, or

· you are a partner in a partnership that is a small business entity and the CGT asset is an asset of the partnership.

In addition to satisfying one of the above conditions, the asset must also pass the active asset test.

You state that you meet all the basic conditions along with the active asset test.

50% active asset reduction

To apply the 50% active asset reduction small business reduction, you need to only satisfy the basic conditions. If you satisfy the basic conditions, the capital gain that remains after applying any current year capital losses and any unapplied prior year net capital losses, and the CGT discount (if applicable), is reduced by 50%.

As you have stated that you satisfy all the basic conditions, the 50% active asset reduction concession can be applied to the land.

GSTR 2009/1

In your application you mention GSTR 2009/1 which considers the margin scheme and partnerships. This ruling is not relevant to the above questions at issue relating to the compensation payment received by you.