Edited version of private advice

Authorisation Number: 1051922387045

Date of advice: 23 November 2021

Ruling

Subject:CGT - Roll-overs- Crown Lease

Question 1

Is the Lessee entitled to roll-over relief under subdivision 124-J of the Income Tax Assessment Act 1997 (ITAA 1997) when it surrendered its original lease agreement and entered into a new lease agreement?

Answer

Yes

This ruling applies for the following period

1 July XXXX to 30 June XXXX

The scheme commences on:

I July XXXX

Relevant facts and circumstances

1.      The Lessee is a private company which was incorporated in Australia in XXXX.

2.      The Lessee continues to have the same majority underlying ownership.

3.      The Lessee carries on X business.

4.      X business comprises a land area of XXXXm².

5.      X business was constructed in XXXX and was extensively renovated/refurbished in XXXX, with further upgrades in XXXX.

6.      X business comprises a number of different rooms.

7.      The Lessee, leases X business from the Lessor, a Statutory body.

8.      The Lessor was created pursuant to a Government Act.

9.      The original Lease (the Old Lease) had a XX year term and was granted to Lessee by the Statutory body pre-capital gains tax (CGT) in XXXX under State law.

10.   Under the Old Lease:

a) the Lessee pays an annual rent;

b) Rent is reviewed every 5 years at the greater of:

(a) X% of the unimproved market value (as at the review date) of the said land, determined by the Valuer General or the State Department of Lands or other relevant Government valuation agency at the time based on the fair market value of the land assuming its use as xxx premises but excluding the value of all building improvements, and

(b) $XX, XXX;

c) The Lessee is responsible to construct and maintain/upgrade the building during the term of the Lease; and

d) At the expiration of the Lease the improvements revert to the Lessor.

11.   X business' Licence was held in the ownership of the Lessor, under the Old lease and continued to be held in the ownership of the Lessor under the New Lease.

12.   In XXXX, prior to the expiration of the Old Lease, the Lessee negotiated with the Lessor and agreed to surrender the Old Lease and enter into a new lease with the Lessor over the same Land (the New Lease). The New Lease was granted to Lessee because it held the Old Lease.

13.   The New Lease commenced from XXXX for a term of XX years to XXXX, with an option to renew for a period of one term of 10 years and a further term of 6 years.

14.   The New Lease is a ground lease with the Lessee responsible to construct and maintain/upgrade the building during the term of the Lease with the improvements reverting to the Lessor at expiration of the Lease.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 104

Income Tax Assessment Act 1997 subsection108-5(1)

Income Tax Assessment Act 1997 subsection108-75(3)

Income Tax Assessment Act 1997 subsection108-75(5)

Income Tax Assessment Act 1997 section109-55

Income Tax Assessment Act 1997 Division 124

Income Tax Assessment Act 1997 Subdivision 124-A

Income Tax Assessment Act 1997 Subdivision 124-J

Income Tax Assessment Act 1997 section 124-10

Income Tax Assessment Act 1997 subsection 124-10(3)

Income Tax Assessment Act 1997 subsection 124-10(4)

Income Tax Assessment Act 1997 section 124-575

Income Tax Assessment Act 1997 section 124-580

Income Tax Assessment Act 1997 Division 149

Income Tax Assessment Act 1997 section 149-15

Income Tax Assessment Act 1997 section 149-30

Reasons for decision

All legislative references are to the Income Tax Assessment Act 1997 ('ITAA 1997') unless otherwise stated.

QUESTION 1:

SUMMARY

The Lessee is entitled to roll-over relief under Subdivision 124-J of the ITAA 1997

DETAILED REASONING

CGT assets

15.   According to subsection 108-5(1) of the ITAA 1997

A CGT asset is

(a)  Any kind of property;

(b)  A legal or equitable right that is not property.

.....

Note 1

Examples of CGT assets are:

•         Land and buildings

Replacement assets

16.   According to item 6 in section 109-55 of the ITAA 1997 (regarding acquisition rules for CGT assets):

Division 124 - Replacement-asset roll-overs

17.   A replacement asset roll-over allows a taxpayer, in certain circumstances, to defer the making of a capital gain or loss from one CGT event until a later CGT event happens.

18.   A roll-over may be available under Division 124 when a taxpayer who owns a CGT asset gives up, surrenders or relinquishes that asset and as part of the same transaction or circumstances the taxpayer receives another CGT asset to replace the original asset.

19.   Section 124-10 of the ITAA 1997 outlines the consequences of acquiring a new (replacement) CGT asset where your ownership of the original CGT asset ends, where the section relevantly provides that:

124-10(3)

...

Note 2:

There are modifications to the consequences in Subdivision 124-B (about compulsory acquisition, loss or destruction), Subdivision 124-C (about statutory licences), Subdivision 124-J (about Crown leases) and Subdivision 124-L (about prospecting and mining).

...

124-10(4)

If you *acquired the original asset before 20 September 1985, you are taken to have acquired each new asset before that day.

Note:

A capital gain or loss you make from a CGT asset you acquired before 20 September 1985 is generally disregarded: see Division 104. This exemption is removed in some situations: see Division 149.

Division 149 - Continuity of underlying ownership

20.   It is relevant to note, the requirement of a continuous underlying ownership in order for assets to retain their pre-CGT status. Subsection 149-30(1) of the ITAA 1997 provides for when an asset loses its pre-CGT status:

SECTION 149-30 Effects if asset no longer has same majority underlying ownership

149-30(1)

The asset stops being a *pre-CGT asset at the earliest time when *majority underlying interests in the asset were not had by *ultimate owners who had *majority underlying interests in the asset immediately before 20 September 1985.

21.   Section 149-15 of the ITAA 1997 sets out what constitutes the 'majority underlying interest' in a CGT asset:

SECTION 149-15 Majority underlying interests in a CGT asset

149-15(1)

Majority underlying interests in a *CGT asset consist of:

(a) more than 50% of the beneficial interests that *ultimate owners have (whether directly or *indirectly) in the asset; and

(b) more than 50% of the beneficial interests that ultimate owners have (whether directly or indirectly) in any *ordinary income that may be *derived from the asset.

149-15(2)

An underlying interest in a *CGT asset is a beneficial interest that an *ultimate owner has (whether directly or *indirectly) in the asset or in any *ordinary income that may be *derived from the asset.

149-15(3)

An ultimate owner is:

(a)  an individual; or

(b)  a company whose *constitution prevents it from making any distribution, whether in money, property or otherwise, to its members; or ...

Subdivision 124-J

22.   Under Subdivision 124-J compulsory roll-over relief is available in situations in which the holder of a Crown lease over land obtains a replacement asset when the lease is renewed, extended or converted into an estate in fee simple.

23.   If a taxpayer fulfils all of the requirements of Subdivision 124-J, the roll-over will occur automatically. The consequences are those set out in Subdivision 124-A (general rules for replacement asset rollovers). For the purposes of applying the rules in subdivision 124-A, the "original asset" is the taxpayer's original Crown lease(s), and the "new asset" is the estate(s) in fee simple and /or new Crown leases granted to the taxpayer.

24.   Subdivision 124-J of the ITAA 1997 sets out the situations in which the holder of a Crown lease over land obtains a replacement asset roll-over when the lease is, among other things, renewed, extended or converted to an estate in fee simple.

25.   A Crown lease is defined in section 124-580 of the ITAA 1997 as a lease of land granted by the Crown under an Australian law (other than the common law) or a similar lease granted under a foreign law.

26.   Section 124-575 of the ITAA 1997 is the central operative provision of Subdivision 124-J of the ITAA 1997. It provides an automatic roll-over where:

124-575(1)

There is a roll-over if:

(a)  you hold one or more *CGT assets that are *Crown leases over land (the original right); and

(b)  the original right expires or you surrender it; and

(c)   you are granted one or more new Crown leases over land or one or more estates in fee simple in land, or both (the new right); and

(d)  the new right relates to the same land as the original right.

Note 1:

The roll-over consequences are set out in Subdivision 124-A. They might be modified: see 124-600.

Note 2:

If there has been a capital improvement to the Crown lease: see section 108-75.

27.   It should be noted that the use of the conjunction "and" at the end of each condition means that paragraphs (a), (b), (c) and (d) must all be satisfied if there is to be a roll-over.

28.   For the rollover to happen, the new right must be granted in one of the ways set out in subsection 124-575(2) of the ITAA 1997 as follows:

124-575(2)

The new right must have been granted in one of these ways:

(a)  by renewing or extending the term of the original right where the renewal or extension is mainly due to your having held the original right; or

(b)  by changing the purpose for which the land to which the original right related can be used; or

(c)   by converting the original right to a *Crown lease in perpetuity; or

(d)  by converting the original right to an estate in fee simple; or

(e)  by consolidating, or consolidating and dividing, the original right; or

(f)    by subdividing the original right; or

(g)  by excising or relinquishing a part of the land to which the original right related; or

(h)  by expanding the area of that land.

Meaning of Crown lease

29.   A lease of Crown land enables exclusive use over a particular piece of land for a specified term and purpose. Generally, leases are sought over Crown land where longer-term security of tenure is an important factor to the user of the land - such as where commercial uses are proposed, and major financial outlay is required.

30.   All Crown leases are issued for specified terms and are recorded on the title of that land. Unless the terms of the lease specify otherwise, there is no inherent right of purchase of the leased land. In Australia leases may be granted by:

● public tender

● invitations for expression of interest: or

● direct negotiation

Meaning of Crown

31.   Section 124-580 of the ITAA 1997 provides the definition of 'Crown lease' for the purposes of the replacement asset roll-over provisions under Subdivision 124-J of the ITAA 1997:

124-580 A Crown lease is:

(a)  a lease of land granted by the Crown under an *Australian law (other than the common law); or

(b)  a similar lease granted under a *foreign law.

32.   The term 'Crown' is not defined for the purposes of the ITAA 1997 and therefore takes its meaning from ordinary usage and understanding. In some instances, government authorities may not, by the nature of their functions, fall within the definition of Crown.

33.   The term 'Crown' is defined by the Macquarie Dictionary, 2009, rev. 5th edn, The Macquarie Library Pty Ltd, NSW to mean:

a. The sovereign as head of the state; the monarch.

b. The imperial or regal power; sovereignty.

c. The government, or governments above local government level, of a country with a constitutional monarch.

34.   In the context of NSW, the 'Crown' is referred to as the Crown in right of NSW. Section 13 of the Interpretation Act 1987 (NSW) (Interpretation Act) provides that a reference to the Crown for the purposes of any Act or Instrument is a reference to the Crown in right of the State of NSW:

13 Sovereign and Crown

In any Act or instrument:

(a)  a reference to the Sovereign (whether the words "Her Majesty" or "His Majesty" or any other words are used) is a reference to the Sovereign for the time being, and

(b)  a reference to the Crown is a reference to the Crown in right of New South Wales.

35.   Section 13A of the Interpretation Act provides guidance as to when a NSW Government agency or statutory body is representing the Crown. Specifically, subsections 13A(4) and 13A(5) of the Interpretation Act provide the following:

(4) In any Act or Instrument:

(a)  a reference to a NSW Government agency includes a reference to a body that is declared to be a statutory body representing the Crown, or

(b)  a reference to a statutory body representing the Crown includes a reference to a body that is declared to be a NSW Government agency.

(5) In this section, the "Crown" includes the State and the Government of the State.

36.   The definition of 'Australian law' for the purposes of paragraph 124-580(a) of the ITAA 1997 can be found in subsection 995-1(1) of the ITAA 1997 and means a Commonwealth law, a State law or a Territory law.

Status of the building attached to the land

37.   Under the common law principle what is attached to the land is part of the land (Section 108-50). A building and the land it is on are usually treated as a single asset, unless an exception applies.

38.   Relevantly, section 108-75 of the ITAA 1997 applies (amongst other things) where a capital improvement is made after 19 September 1985 to a Crown lease (acquired on or before 19 September 1985) and which has been the subject of roll-over relief under Subdivision 124-J of the ITAA 1997.

39.   Further, a capital improvement made to such a Crown lease is treated as being a separate CGT asset under subsection 108-75(3) of the ITAA 1997 where:

108-75(3)

...if [the capital improvement's] *cost base (assuming it were a separate CGT asset) when the *CGT event happens is:

(a)  more than the *improvement threshold for the income year in which the event happened; and

(b)  more than 5% of the *capital proceeds from the event.

Example:

To continue the example, suppose the cost base of the right is $101,000 and the improvement threshold for the 1999-2000 income year is $96,000.

Since the cost base of the right is more than the improvement threshold and more than 5% of the capital proceeds, the right is taken to be a separate CGT asset.

Note 1:

Section 108-80 sets out the factors for deciding whether capital improvements are related to each other.

Note 2:

If the improvement is a separate asset, the capital proceeds from the event must be apportioned between the asset and the improvement: see section 116-40.

40.   However, this section does not apply in the following circumstances set out in subsection 108-75(5):

108-75(5)

This section does not apply to any capital improvement:

(a)  )that took place under a contract that you entered into before 20 September 1985; or

(b)  If there is not contract -that started or occurred before that day.

Application to your Circumstance

CGT asset

41.   Under the existing Lease use of the land is granted to the Lessee. The Lessee is responsible to construct and maintain/upgrade the building during the term of the lease with the improvements reverting to the lessor at expiration of the lease.

42.   According to subsection 108-5(1) of the ITAA 1997, the lease, land and building are all CGT assets.

Division 124- Replacement asset roll-overs

43.   The Lessee entered an agreement with the Lessor which resulted in the cancellation of Old lease, over the land, including the attached building. In return the Lessee was granted a new lease over the same land and assets (the replacement asset).

Division 149 - Continuity of underlying ownership

44.   For any eligible assets to maintain their pre-CGT status as the Lessee is a company there needs to be an individual as the ultimate owner, who has a majority underlying interest in the assets and that same ultimate owner also had a majority underlying interests in the assets immediately before 20 September 1985.

45.   The Lessee states there is an individual who is the ultimate owner that satisfies the requirement to hold a majority underlying interest at the relevant times.

Subdivision 124-J

Crown Lease

46.   The grant of the lease from the Statutory Body must satisfy the definition of a Crown lease for the purposes of section 124-580 of the ITAA 1997.

47.   The lease of land has been granted to the Lessee by the Statutory Body, created pursuant to a Government Act.

48.   The Act provides for a system of government in the State and for related purposes. The Act deals with the constitutional framework of the system of government and is maintained as required by the Constitution Act 1902 (NSW) (Constitution Act). Section 4 of the Act provides the 'Act binds the Crown in right of New South Wales....

49.   Under these circumstances, the Statutory Body, is established under and regulated by the Act. On this basis, it is considered that the Statutory Body is the 'State' or the 'Government of the State' of NSW and therefore within the meaning of the 'Crown' for the purposes of section 13A of the Interpretation Act.

50.   Accordingly, the Old Lease constituted a Crown lease as it was a lease of land granted by the Statutory Body, representing the Crown, under NSW real property law, being an Australian law.

51.   It is accepted that the Old Lease was a Crown lease over land for the purposes of Subdivision 124-J of the ITAA 1997.

Section 124-575

52.   The Lessee had a Crown lease which was surrendered and re-granted over the same land.

53.   As the re-granted Crown Lease is over the same land and it was only regranted upon surrender, subsection 124-575(1) of the ITAA 1997 is satisfied.

54.   Further, as the re-granted Crown Lease was granted in circumstances where the renewal was because the Lessee held the original lease, paragraph 124-575(2)(a) of the ITAA 1997 is also satisfied and the Crown lease rollover in Subdivision 124-J of the ITAA 1997 will apply.

Status of the building attached to the land

55.   The Old Lease was acquired by the Lessee in XXXX with a building constructed in the same year, both before 20 September 1985. The common law principle, of what is attached to the land is part of the land would apply to the pre-CGT land and building, due to the operation of section 108-75(5) of the ITAA 1997.

56.   The application of section 108-75 of the ITAA 1997 to the extensive renovation to the building in XXxx and further upgrades in XXxx does not affect the eligibility for the Crown lease rollover. However, application of s 108-75 is something that will need to be considered in relation to any future CGT events, to determine whether the improvements are taken to be separate CGT assets.

Conclusion

57.   Applying the general acquisition rule for CGT assets in item 6 of the table in section 109-55 of the ITAA 1997 and according to subsection 124-10(4) of the ITAA 1997, the automatic roll-over under Subdivision 124-J of the ITAA 1997 will apply to the surrender of the Old Lease and the entering into of the New Lease with Lessor. Consequently, any capital gain or loss made by the Lessee from the surrender of the Old Lease is ignored.

58.   Where a replacement asset rollover applies to an asset that was acquired before 20 September 1985, the new asset is also taken to have been acquired before that day. This means that upon surrender and re-grant of the Crown Lease, the re-granted Crown Lease is taken to have been acquired before 20 September 1985, subject to the application of section 108-75 of the ITAA 1997. If any separate asset was acquired after 20 Sep 1985, that asset will retain the acquisition date.