Edited version of private advice

Authorisation Number: 1051921742897

Date of advice: 25 November 2021

Ruling

Subject: Eligibility for deductions - replacement of materials in the roof and some internal walls

Question 1

Can Taxpayer claim income tax deductions on removing and replacing damaged asbestos cement roofing and internal walls under s 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Can Taxpayer claim income tax deductions on removing damaged asbestos cement roofing and internal walls under subsection 40-755(1) of ITAA 1997 as expenditure they incurred for the sole or dominant purpose of carrying on environmental protection activities?

Answer

No.

This private ruling applies for the following period:

Income Year Ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Taxpayer owns a number of commercial properties, including Building C and Building D. Taxpayer has been operating a manufacturing business from the premises at Building C for a number of years. Taxpayer leases commercial factory premises at Building D to Tenants via an Agent.

Taxpayer received complaints from the Tenants expressing concerns about asbestos in the building. Contractors previously engaged by Taxpayer to repair roof and gutter leaks had also reported that the rooves were sagging and becoming unsafe.

Taxpayer engaged consulting services to undertake the assessment of the materials in the buildings. Samples were taken from various parts of the properties owned by Taxpayer.

The report produced by the consulting services found some areas containing asbestos material.

The report made the following recommendations:

The rooves over buildings C and D were in poor to fair condition as were some of the internal partition walls in building C. The material considered to be in poor to fair condition should be removed to prevent further deterioration and the potential for the release of respirable fibres.

It is recommended that during the removal of asbestos containing material considered to be in poor to fair condition the external wall cladding and downpipes on building C are also removed and the external/internal wall material (both the internal section and external section) on the western side of the upper unit in building D are also removed. The removal of this additional material is considered a proactive measure to minimise the potential for future weathering.

Taxpayer contends that the materials used to replace the roof and the walls are the modern-day equivalent of the materials originally used.

Assumption

NA

Relevant legislative provisions

Section 25-10 of the Income Tax Assessment Act 1997

Subsection 40-760(1) of the Income Tax Assessment Act 1997

Subsection 40-755(1) of the Income Tax Assessment Act 1997

Reasons for decision

Question 1

Summary

The removal and the replacement of the materials in the rooves and parts of the walls in Buildings C and D satisfy the conditions in section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) and are deductible as repairs to your business premises.

Detailed reasoning

Section 25-10 of ITAA 1997 states:

Repairs

(1)   You can deduct expenditure you incur for repairs to premises (or part of premises) or a depreciating asset that you held or used solely for the purpose of producing assessable income.

(2)   ...

No deduction for capital expenditure

(3)   You cannot deduct capital expenditure under this section.

Premises... used solely for the purpose of producing assessable income

The premises in question are used by Taxpayer solely for the purposes of producing assessable income: Building C for operating Taxpayer's own manufacturing business and Building D for leasing as commercial factory premises.

Meaning of "repairs"

The word "repairs" is not defined in ITAA1997 and therefore takes its ordinary meaning.

Taxation Ruling TR 97/23Income tax: deductions for repairs (TR 97/23) explains that the word "repairs" ordinarily means the remedying or making good of defects in, damage to, or deterioration of, property to be repaired (being defects, damage or deterioration in a mechanical and physical sense) and contemplates the continued existence of the property.

Paragraph 15 of TR 97/23 further explains that repair for the most part is occasional and partial. It involves restoration of the efficiency of function of the property being repaired without changing its character and may include restoration to its former appearance, form, state or condition. A repair merely replaces a part of something or corrects something that is already there and has become worn out or dilapidated.

Paragraph 16 of TR 97/23 stipulates that any substantial improvement, addition or alteration is not a repair and is not deductible under section 25-10 of ITAA 1997.

In application to Taxpayer's circumstances, the repairs were performed on an occasional rather than a regular basis. The repairs to the rooves and parts of the walls marked in the Asbestos Report as in "poor to fair" condition were performed in order to restore the efficiency of the function of the parts which had shown some weathering, fractures or breaks. The repairs to the walls marked as in "fair" or "fair - good" condition was performed in order to remedy "some weathering", "minor weathering" and/or "occasional fractures".

In comparing the Asbestos report against the quotation provided by the builders, we are satisfied that the repairs remedied the deterioration of the property, and that repairs were performed on existing parts of the building and did not constitute substantial improvement, addition or alteration. The new materials did not constitute a substantial improvement and did not add any extra functionality to the property. Some parts that constituted new additions to the building (roof vents and the translucent fibreglass wall) have been specifically excluded as you do not intend to claim a tax deduction for them.

Is the work performed on the parts in "fair" or "fair - good" condition maintenance or repairs?

According to paragraph 19 of TR 97/23, work done partly to remedy or make good defects, damage or deterioration does not cease to be a repair if it is also done partly - even largely - to prevent or anticipate defects, damage or deterioration in property or in rectifying defects in their very early stages. Repairs are not confined to rectifying defects, damage or deterioration that have already become serious. Work done to property not in need of repair, however, is not repair work and any expenditure for the work in these circumstances is not deductible under section 25-10 of ITAA 1997.

In application to Taxpayer's case, some repairs were performed on the walls in "fair" or "fair-good" condition and addressed minor weathering and breakage. According to the Asbestos Report, the removal and replacement of those wall materials was done as a proactive measure to minimise the potential for future weathering. However, according to the same report, the materials in other areas of the buildings were also in "fair" or "fair-good" condition but were not removed and replaced. The recommendations in the conclusion to the report show that the replacement of the materials in "fair" or "fair-good" condition was performed in conjunction with replacing the materials in "poor to fair" condition, and partly to prevent and anticipate defects before they became serious.

Expenditure to control health risks from dangerous substances

As per paragraph 26 of TR 97/23, work done to property in controlling health risks associated with the use of dangerous substances (such as asbestos) does not qualify as a 'repair' for the purposes of section 25-10 of ITAA 1997 unless the work remedies or makes good defects in, damage to, or deterioration of the property.

According to the Asbestos Report, asbestos materials were identified in a number of areas of the building. However, only the materials that had sustained some weathering and breakage were recommended for removal and subsequently removed and replaced.

In what situations is repair expenditure of a capital nature?

Subsection 25-10(3) of ITAA 1997 precludes a deduction for capital expenditure.

According to paragraph 32 of TR 97/23, expenditure for repairs to property is capital in nature if any of the following subparagraphs applies:

a)    ... the expenditure is incurred in establishing, replacing or enlarging the profit-yielding (i.e., business) structure rather than being a working or operating expense ...

b)    The expenditure, rather than being for work done to restore the property by renewal or replacement of subsidiary parts of a whole, is for work that is a renewal in the sense of a reconstruction of the entirety

In Lindsay v. FC of T (1960) 106 CLR 197; 12 ATD 505, the High Court (Kitto J) held that expenditure incurred by a shipbuilder to renew a slipway was a renewal of an entirety and not a deductible repair, as it was "separately identifiable as a principal... item of capital equipment". His Honour quoted Donovan J. in Phillips v. Whieldon Sanitary Potteries Ltd. (1952) 33 Tax Cas 213:

"In my judgment, the 'premises' for the purpose of Rule 3 (d) may sometimes be the whole of the trader's business premises and may sometimes be a specific building forming part of those premises. Thus, if a factory window were blown out and had to be repaired, it would be obviously wrong to argue that as the entirety of the window had been restored it was not a repair to the premises. In such a case the 'premises' would be the entire factory, in relation to which the window would be a repair and nothing else. But if, for example, a retort house in a gasworks was destroyed and had to be rebuilt, one would hardly call that a repair to the gasworks. The size of the retort house would compel one to regard that as the premises...".

His Honour proceeded to explain that in another case, the Rhodesia Railways Case (1933) AC 368, the replacement of rails and sleepers over thirty-three miles of a railway line, and of sleepers over a further forty miles, was held to be a repair. The total length of the line was three hundred and ninety-four miles, and the effect of the work was to bring the track as a whole back to normal condition.

Paragraph 115 of TR 97/23 provides the tests used by the courts and tribunals to identify an entirety as distinct from a subsidiary part:

•         is the property (e.g., a chimney) physically, commercially and functionally an inseparable part of an entirety (e.g., a factory)? (Samuel Jones & Co (Devondale) Ltd v. Commissioners of Inland Revenue (1951) 32 TC 513)

•         is the property (e.g., a slipway) separately identifiable as a principal item of capital equipment? (Lindsay's case).

•         is the thing or structure (e.g., a timber staircase) an integral part, but only a part, of the entire premises and is it capable of providing a useful function without regard to any other part of the premises? (Case W68 89 ATC 613; AAT Case 5232 (1989) 20 ATR 3796)

•         is the thing or structure (e.g., meters and pumping plant) a separate and distinct item of plant in itself from the thing or structure (e.g., a light and power station) to which it supplied something (e.g., electric light and power) or an integral part of some larger item of plant? (Case 36 (1949) 15 TBRD (OS) 287).

•         is the property a 'unit of property' as that expression is used in the depreciation provisions of the income tax law, bearing in mind that, to be such a 'unit', the thing or structure must be 'functionally separate and independent'? (Ready Mixed Concrete (Victoria) Pty Ltd v. FC of T (1969) 118 CLR 177; (1969) 15 ATD 215).

In application to Taxpayer's case, removal and replacement of the materials in the rooves and parts of the walls in the two commercial buildings does not constitute establishing, replacing or enlarging the business structure. While the work performed is on a large-scale and costly, the rooves and the walls in question are:

•         not identifiable as a separate building on the business premises or a separate principal item of capital equipment;

•         physically, commercially and functionally inseparable parts of the entirety;

•         an integral part of the premises, and are incapable of providing a useful function without the rest of the premises

In this case, the premises are each commercial buildings, and removing/replacing the materials in the rooves and parts of the walls are only repairs.

Conclusion

Following this analysis, the removal and the replacement of the materials identified above satisfy the conditions in section 25-10 of ITAA 1997 and are deductible as repairs

Question 2

Summary

As the amounts are deductible as repairs under s 25-10 of ITAA 1997 (as per Question 1 of this Ruling), they are not deductible under subsection 40-755(1) of ITAA.

Detailed reasoning

Subsection 40-755(1) of the Income Tax Assessment Act 1997 (ITAA 1997) allows an immediate deduction for expenditure you incur for the sole or dominant purpose of carrying on environmental protection activities.

Paragraph (e) of subsection 40-760(1) of ITAA 1997states that you cannot deduct an amount under section 40-755 of ITAA 1997 if it is deductible under another provision of this Act.

As the amounts are deductible as repairs under s 25-10 of ITAA 1997 (as per Question 1 of this Ruling), they are not deductible under subsection 40-755(1) of ITAA 1997.

Other relevant comments

The cost of the asbestos inspection may be a deductible expense under subsection 40-755(1) of ITAA 1997. However, these expenses have not been considered in this ruling.