Edited version of private advice

Authorisation Number: 1051611543973

Date of advice: 21 November 2019

Subject: Income Tax - Business expenses -section 40-880

Question

Will section 40-880 of the Income Tax Assessment Act 1997 (ITAA 1997) apply to provide a deduction for the capital costs incurred by Company X

Answer

Yes.

This ruling applies for the following period:

1 July 20XX to 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Company X engaged advisors to assist in its business needs to assess the state of the business and to provide with available alternatives.

The advisors reviewed the business, provided advice and charged a fee for their services.

Relevant legislative provisions

Income tax Assessment Act 1997 section 40-880

Reasons for decision

Unless otherwise stated, all legislative references are to the Income Tax Assessment Act 1997.

According to subsection 40-880(1) the object of section 40-880 is to make certain business capital expenditure deductible, usually over five years, incurred on or after 1 July 2005, if:

(a)   the expenditure is not otherwise taken into account; and

(b)   a deduction is not denied by some other provision; and

(c)   the business is, was or is proposed to be carried on for a taxable purpose.

Taxation Ruling TR 2011/6 Income tax: business related capital expenditure - section 40-880 of the Income Tax Assessment Act 1997 core issues (TR 2011/6) sets out the Commissioner's views on the interpretation of the operation and scope of section 40-880.

Paragraph 23 of TR 2011/6 states that determining the amount allowable as a deduction under section 40-880 is a multi-step process:

·        First, it is necessary to determine initial entitlement under subsection 40-880(2); and

·        Then, the limitations and exceptions in the subsequent subsections must be considered.

Subsection 40-880(2)

Subject to the limitations and exceptions contained in subsections 40-880(3) to (9):

Subsection 40-880(2) provides that you can deduct, in equal proportions over a period of 5 income years starting in the year in which you incur it, capital expenditure you incur:

(a)   in relation to your business; or

(b)   in relation to a business that used to be carried on; or

(c)   in relation to a business proposed to be carried on; or

(d)   to liquidate or deregister a company of which you were a member, to wind up a partnership of which you were a partner or to wind up a trust of which you were a beneficiary, that carried on a business.

The expenditure must be incurred on or after 1 July 2005

There is no statutory definition of the term "incurred". As a broad guide, a taxpayer incurs an outgoing at the time they owe a present money debt that they cannot avoid paying: paragraph 62 of TR 2011/6.

Company X incurred the expenses on or after 1 July 2005.

The expenditure must be capital in nature

The expression 'capital expenditure' is not a defined term. Whether expenditure is capital in nature is determined on the facts of the each particular case having regard to the principles established by the case law.

Paragraph 66 of TR 2011/6 refers to the classic test for determining whether expenditure is of a capital or revenue nature which is explained in the judgment of Dixon J in Sun Newspapers Ltd and Associated Newspapers Ltd v Federal Commissioner of Taxation (1938) 61 CRL 337; (1938) 5 ATD 23; (1938) 1 AITR 403 (Sun Newspapers):

There are, I think, three matters to be considered,(a) the character of the advantage sought, and in this its lasting qualities may play a part, (b) the manner in which it is to be used, relied upon or enjoyed, and in this and under the former head recurrence may play its part, and (c) the means adopted to obtain it; that is, by providing a periodical reward or outlay ....

If expenditure produces some asset or advantage of a lasting character for the benefit of the business it will be considered to be capital expenditure: paragraph 68 of TR 2011/6.

The advices and services provided by the advisors to Company X benefited the business and accordingly it is reasonable to conclude that the expenses incurred by Company X is of capital nature for the purposes of section 40-880.

The capital expenditure must be business related

Subject to the specified limitations and exceptions, paragraphs 40-880(2)(a) to (c) allow a taxpayer to deduct capital expenditure if it is incurred in 'relation to' a business:

(a)   currently carried on by them;

(b)   formerly carried on by them or by another entity; or

(c)   proposed to be carried on by them or by another entity.

Paragraph 40-880(2)(a) gives an entitlement to a deduction for capital expenditure the taxpayer incurs in relation to their business. The expenditure must relate to an existing business that the taxpayer is carrying on at the time they incur the expenditure: paragraph 98 of TR 2011/6.

Accordingly, the expenses are considered to be incurred by Company X in relation to their current business as there is a sufficient and relevant connection between the costs and the current business for the purposes of paragraph 40-880(2)(a).

Limitations and exceptions on the amount of expenditure allowable as a deduction

Once the relevant business is determined for the purposes of subsection 40-880(2), subsections 40-880(3) or (4) may apply to limit deductibility of the capital expenditure to the extent that it relates to that business being carried on for a taxable purpose.

There are further possible restrictions which are contained in subsections 40-880(5), 40-880(8) and 40-880(9).

The expenses incurred by Company X is not subject to the limitation in subsection 40-880(3) and exceptions contained in subsections 40-880(5), (8) and (9).

Subsections 40-880(3) and (4) both contains a 'taxable purposes test' which applies to the expenditure identified in subsection 40-880(2) by reference to the extent to which it relates to carrying on the business for a taxable purpose.

Paragraphs 2.46 and 2.47 of the Explanatory Memorandum (Tax Laws Amendment (2006 Measures No.1) Act 2006) relevantly state:

The definition of 'taxable purpose' is provided by subsection 40-25(7) and covers various purposes, including the purpose of producing assessable income. The term purpose of producing assessable income is further defined in subsection 995-1(1) as being something done:

·        for the purpose of gaining or producing assessable income; or

·        in carrying on a business for the purpose of gaining or producing assessable income.

A taxpayer whose business is not carried on for a taxable purpose cannot deduct expenditure to that extent. This limitation is not an annual test: that is, it is not to limit deductions to only the income years in which the business is carried on for a taxable purpose. The test as to the taxable purpose of the business is applied - as at the time the expenditure is incurred - to the taxable purpose of the business by reference to all known and predictable facts in all years.

It is considered that the expenses were incurred in relation to the current business of Company X.

Conclusion

The Commissioner considers that the expenditure is incurred in relation to the business of Company X and is therefore eligible for a deduction under paragraph 40-880(2)(a) to the extent that the business is carried on for a taxable purpose.