Edited version of private advice

Authorisation Number: 1051973018200

Date of advice: 13 April 2022

Ruling

Subject: Conduct and compensation agreement

Question 1

Do the receipts under the Conduct and Compensation Agreement (CCA) constitute assessable income in accordance with section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

Question 2

Do the receipts under the CCA constitute capital proceeds under Division 116 of the ITAA 1997 in respect of a CGT event happening?

Answer

No.

Question 3

Do the receipts under the CCA reduce the cost base of the property/land under section 110-45(3) of the ITAA 1997?

Answer

No.

Question 4

Will the amounts received in relation to water sales constitute assessable income?

Answer

Yes.

Question 5

Will the amounts received in relation to the gravel sales constitute assessable income?

Answer

Yes.

Question 6

Will the landholder incur a GST liability on the receipt of the compensation amounts?

Answer

No.

Question 7

Will the landholder incur a GST liability on the receipt of proceeds from sale of resources?

Answer

Yes.

This ruling applies for the following periods:

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commences on:

XX Month 20XX

Relevant facts and circumstances

You are the legal owners of property.

The property was acquired prior to 19 September 1985, and therefore capital gains tax will not apply to its disposal.

A portion of the property is used for xxxx.

You entered into a Conduct and Compensation Agreement (CCA) with the Company in the relevant year.

You carry on a primary production business on the land.

The CCA compensates you for the impact of all activities on the property.

Conduct and compensation agreement

The CCA provides that the Company is the holder of the Petroleum Authority. The CCA acknowledges that you are eligible claimants for the activities that the Company intends to carry out on the land under the Petroleum Authority.

The CCA is a conduct and compensation agreement under the petroleum legislation, the Mineral and Energy Resources (Common Provisions) Act 2014 (Qld) and, where the context requires, the Petroleum and Gas (Production and Safety) Act 2004 (Qld) and the Petroleum Act 1923 (Qld) and this includes an alternative arrangement for Noise Impacts under the Environmental Authority and includes a Waiver of Entry.

The term Petroleum Legislation means the Mineral and Energy Resources (Common Provisions) Act 2014 (Qld) and, where the context requires, the Petroleum and Gas (Production and Safety) Act 2004 (Qld) and the Petroleum Act 1923 (Qld) (as amended and replaced). Section 81 of the Mineral and Energy Resources (Common Provisions) Act 2014 defines the general liability of the resource authority holder to compensate each owner/occupier of private and public land that is in an authorised area for any compensatable effect the eligible claimant suffers as a result of authorised activities carried out by the holder or a person authorised by the holder.

Subsection 81(4) of the Mineral and Energy Resources (Common Provisions) Act 2014 defines "compensatable effect" as:

Compensatable effect, suffered by an eligible claimant because of a resource authority holder; means all or any of the following:

(a)          all or any of the following caused by the holder, or a person authorised by the holder, carrying out authorised activities on the eligible claimant's land-

(i)            deprivation of possession of the land's surface;

(ii)           diminution of the land's value;

(iii)          diminution of the use made, or that may be made, of the land or any improvement on it;

(iv)          severance of any part of the land from other parts of the land or from other land that the eligible claimant owns;

(v)           any cost, damage or loss arising from the carrying out of activities under the resource authority on the land; and

(b)          consequential loss incurred by the eligible claimant arising out of a matter mentioned in paragraph (a).

The CCA provides that the landholder has had the opportunity to seek advice before signing the agreement and the company will compensate the landholder under the Petroleum Legislation for the Professional Costs.

Compensation under the CCA

The CCA provides that the company must pay compensation to the landholder in the amount and time set out in the CCA. The Compensation:

a.            Compensates the landholder for all:

             I.                Compensatable Effects, Disturbance Impacts and Noise Impacts:

A.           of the Activities (including any maintenance reopening the Land's surface) and Modifications; and

B.           from Authorised Activities off the Land; and

            II.                Professional Costs; and

           III.                other amounts payable by the company to the Landholder under Relevant Laws for the Activities.

          IV.                (collectively, the Compensation Matters);

b.            is in full and final satisfaction of all of the company and its associates' compensation liability to the landholders

The compensation to be paid is set out in the CCA.

Activities proposed to be carried out

The CCA identifies all the construction and petroleum production activities to be carried out on the land. Petroleum production will include all activities reasonably associated with or incidental to the construction, testing, development, operation, maintenance, decommissioning and rehabilitation of the land.

The special conditions acknowledge the additional noise that is expected to be caused:

The activities on the property will be part of an overall network of activities carried on in the district by the Company and it is expected that additional work will be necessary to connect the system on the property with the gathering system on neighbouring properties.

Construction under the CCA is deferred and an exact date as to when the infrastructure will be constructed on the land has not been provided.

You expect that construction will take place in the 20XX calendar year.

The company must comply with all relevant laws in relation to declared weeds when accessing the land and that all reasonable care must be taken. This has the effect that all equipment that may come onto the land must have a weed hygiene inspection certificate that must be shown on request and if the certificate cannot be produced then the relevant vehicle must immediately leave the property or park in a safe location until a weed hygiene inspection certificate can be produced. Additionally, the mere fact that access can be made to the land by all equipment and vehicles means that the natural weed bio-security barrier has been broken or at least permanently damaged for the duration of the CCA.

The company has responsibility for the rehabilitation or decommissioning and rehabilitation.

Resource payments

The CCA provides that the landholder may be paid an amount of water taken from the property while the compensation schedule identifies that a prepayment will be made for water.

The water, if taken by the company, will be extracted from the dams on the property that are recharged by overland flow.

You have agreed to sell gravel to the company from a gravel deposit on the land. The CCA provides for the payment and treatment of the gravel.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 Division 104

Income Tax Assessment Act 1997 section 110-40

Income Tax Assessment Act 1997 Division 116

A New Tax System (Goods and Services Tax) Act 1999 section 9-5

A New Tax System (Goods and Services Tax) Act 1999 section 9-10

A New Tax System (Goods and Services Tax) Act 1999 subsection 9-10(1)

A New Tax System (Goods and Services Tax) Act 1999 section 9-15

Reasons for decision

Compensation payments as ordinary income

Section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident includes ordinary income derived directly or indirectly from all sources during the income year.

Compensation paid due to loss and damage of a capital asset in the process of a petroleum authority undertaking petroleum activities on a taxpayer's land is an isolated transaction. Whether a profit from an isolated transaction is income according to ordinary concepts depends on the circumstances of the case. Profits from an isolated transaction are generally ordinary income when both of the following elements are present:

a)            the intention or purpose of the taxpayer in entering into the transaction was to make a profit or gain, and

b)            the profit was made, in the course of carrying on a business or in carrying out a business operation or commercial transaction (paragraph 6 of Taxation Ruling TR 92/3 Income tax: whether profits on isolated transactions are income).

Neither of the above elements apply in your situation. The compensation payments were made in accordance with the Mineral and Energy Resources (Common Provisions) Act 2014 (Qld), the Petroleum and Gas (Production and Safety) Act 2004 (Qld) and the Petroleum Act 1923 (Qld).

The compensation payments paid under the CCA do not give rise to income according to ordinary concepts or to a profit arising from a profit-making undertaking or plan pursuant to section 6-5 of the ITAA 1997. You did not enter into the arrangement to make a profit. Rather, you as a landholder, entered into the arrangement in order to receive compensation for damage that will be caused by the mining activities.

The compensation amounts are not included in your assessable income under section 6-5 of the ITAA 1997.

Compensation payments and the capital gains tax (CGT) provisions

Under section 6-10 of the ITAA 1997 some amounts that are not ordinary income are included in your assessable income due to another provision of the tax law. These amounts are statutory income. Statutory income may arise from CGT events as consequence of an eligible claimant being entitled to receive compensation for the loss and destruction of a CGT asset.

Taxation Ruling TR 95/35 Income tax: capital gains: treatment of compensation receipts provides the Commissioner's view as to the CGT consequences of receiving a compensation payment. The ruling provides that it is necessary to identify the underlying asset to which the payment relates and what has occurred to that asset.

The underlying asset is the asset that, using the 'look-through' approach, is disposed of or has suffered permanent damage or has been permanently reduced in value because of some act, happening, transaction, occurrence or event which has resulted in a right to seek compensation from the person or entity causing that damage or loss in value or against any other person or entity.

If there is more than one underlying asset, the relevant asset is the asset which leads directly to the payment of the amount of compensation. For example, if a taxpayer receives an amount of compensation for the destruction of his or her truck, the truck is the underlying asset.

If an amount of compensation is received by a taxpayer wholly in respect of the disposal of an underlying CGT asset, or part of an underlying CGT asset, of the taxpayer the compensation represents consideration received on the disposal of that asset. In these circumstances, the Commissioner considers that the amounts are not consideration for the disposal of any other asset, such as the right to seek compensation.

If an amount of compensation is received by a taxpayer wholly in respect of permanent damage suffered to an underlying asset of the taxpayer or for a permanent reduction in the value of an underlying asset of the taxpayer, and there is no disposal of that underlying asset at the time of the receipt, then the amount represents a recoupment of all or part of the total acquisition costs of the asset.

Accordingly, the total acquisition costs of the CGT asset should be reduced by the amount of the compensation. No capital gain or loss arises in respect of that asset until the taxpayer actually disposes of the underlying asset. If the compensation amount exceeds the total unindexed acquisition costs (including a deemed cost base) of the underlying asset, there are no CGT consequences in respect of the excess compensation amount.

The CSG activities will result in permanent damage to, or a permanent reduction in the value of the land.

As you did not dispose of all or part of the affected land there are no CGT consequences at the time of entering into the CCA or receiving the compensation payments. The land's acquisition cost will be reduced by the compensation payments received in relation to the land. As the property was acquired prior to 19 September 1985, capital gains tax does not apply to its disposal and the compensation received will be disregarded.

Water sales

Under the CCA you receive payments for the volume of water taken from your property. The amount of water taken is dependent on the available level of water in the dams and tanks, the levels of which are governed by seasonal conditions. The sale of water will not constitute permanent damage to the water supply associated with the land. The amounts received from the sale of the water constitute ordinary income under section 6-5 of ITAA 1997.

Gravel sales

The disposal of gravel, similar to the water sales outlined above, has characteristics of ordinary income. However, the taking of the gravel additionally has elements of a permanent reduction to a resource on the property. A royalty is defined within Taxation Ruling IT 2660 Income tax: definition of royalties at paragraph 10. As the disposal of gravel will meet all elements of the royalty, the payments will constitute a royalty and must be included in your assessable income.

Goods and Services Tax

Section 9-40 of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) provides GST is payable on taxable supplies.

Section 9-5 provides that you make a taxable supply if:

a) you make the supply for consideration

b) the supply is made in the course or furtherance of an enterprise that you carry on

c) the supply is connected with the indirect tax zone (Australia)

d) you are registered or required to be registered.

However, the supply is not a taxable supply to the extent that it is GST-free or input taxed.

To determine whether you are making any supplies when entering the CCA within the meaning of the GST Act we need to examine whether any activities of yours or obligations you enter can be characterised as a supply.

The existence of a 'supply' itself is an essential element in determining whether there is a taxable supply under section 9-5 of the GST Act.

Supply

The term 'supply' is defined in subsection 9-10(1) of the GST Act as 'any form of supply whatsoever'. Paragraph 9-10(2)(g) of the GST Act provides that a supply includes:

an entry into, or a release from, an obligation:

i.              to do anything; or

ii.             to refrain from an act; or

iii.            to tolerate an act or situation.

The statutory definition of 'supply' is very broad. Essentially, a supply is something which passes from one entity to another, and may be one of goods, services, or something else.

Consideration

Section 9-15 of the GST Act provides that a payment will be consideration for a supply if the payment is 'in connection with' a supply and 'in response to' or 'for the inducement' of a supply. Thus, there must be a sufficient nexus between a particular supply and a particular payment, which is provided for that supply, for there to be a supply for consideration.

Sufficient nexus

A sufficient nexus between the compensation amounts and a supply must exist to create the 'supply for consideration' relationship.

The issue is whether you have provided something to the company, in return for the compensation amounts that are paid.

Goods and Services Tax Ruling GSTR 2006/9 Goods and services tax: supplies examine the meaning of supply under section 9-10.

Paragraph 22 of GSTR 2006/9 outlines the ten propositions which may be relevant to characterising and analysing supplies. The relevant propositions include:

Proposition 5: To 'make a supply' an entity must do something

Proposition 6: ''Supply' usually, but not necessarily, requires something to be passed from one entity to another'.

Proposition 5 provides that an entity will make a supply whenever that entity (the supplier) provides something of value to another entity (the recipient). This is consistent with the ordinary meaning of 'supply', being to furnish or provide.

When analysing an arrangement to determine the GST consequences, it is necessary to examine the terms of the transaction documents between the parties and the facts and circumstances in which the arrangement is carried out to identify what is being supplied.

You are not providing a right in relation to the land and so the question then is why are you receiving compensation? As identified earlier the payments to you are in respect of compensation for any damages caused or likely to be caused to their land and any inconvenience suffered by the landholder because of the activities carried out by the company.

Paragraph 84 of GSTR 2006/9 provides a useful analogy to your circumstances with respect to compensation received from a compulsory acquisition of land:

84. Mere acceptance by an owner of an amount of compensation payable on the compulsory acquisition does not provide a sufficient nexus between the land which passes and the means by which it passes. The fact that the owner does not dispute the acquisition is not an activity that effects the supply of the land. Even if the owner agrees to the terms of the acquisition and the amount of compensation, the land is acquired by operation of the statute, upon publication of the acquisition notice, not by an action taken by the landowner.

Goods and Services Tax Ruling 2001/4: Goods and Services Tax: GST consequences of court orders and out-of-court settlements at paragraphs 106 to 109 discusses 'discontinuance supplies' as follows:

106. Where the only supply in relation to an out-of-court settlement is a 'discontinuance' supply, it will typically be because the subject of the dispute is a damages claim. In such a case, the payment under the settlement would be in respect of that claim and not have a sufficient nexus with the discontinuance supply.

107. In most instances, a 'discontinuance' supply will not have a separately ascribed value and will merely be an inherent part of the legal machinery to add finality to a dispute which does not give rise to additional payment in its own right. They are in the nature of a term or condition of the settlement, rather than being the subject of the settlement.

108. We do not consider that the inclusion of a 'no liability' clause in a settlement deed alters this position. 'No liability' clauses are commonly included in settlement agreements and we do not consider their inclusion to alter the substance of the original dispute, or the reason payment is made.

109. We consider that a payment made under a settlement deed may have a nexus with a discontinuance supply only if there is overwhelming evidence that the claim which is the subject of the dispute is so lacking in substance that the payment could only have been made for the discontinuance supply.

Paragraphs 71 to 73 in GSTR 2001/4 states the following in relation to damages:

71. Disputes often arise over incidents that do not relate to a supply. Examples of such cases are claims for damages arising out of property damage, negligence causing loss of profits, wrongful use of trade name, breach of copyright, termination or breach of contract or personal injury.

72. When such a dispute arises, the aggrieved party will often assert its right to an appropriate remedy. Depending on the facts of each dispute a number of remedies may be pursued by the aggrieved party in order to ensure adequate compensation. Some of these remedies may be mutually exclusive but it is still open to the aggrieved party to plead them as separate heads of claim until such time as the matter is resolved by a court or through negotiation.

73. The most common form of remedy is a claim for damages arising out of the termination or breach of a contract or for some wrong or injury suffered. This damage, loss or injury, being the substance of the dispute, cannot in itself be characterised as a supply made by the aggrieved party. This is because the damage, loss, or injury, in itself does not constitute a supply under section 9-10 of the GST Act.

Paragraphs 110 and 111 of GSTR 2001/4 further explain:

110. With a dispute over a damages claim, the subject of the dispute does not constitute a supply made by the aggrieved party. If a payment made under a court order is wholly in respect of such a claim, the payment will not be consideration for a supply.

111. If a payment is made under an out-of-court settlement to resolve a damages claim and there is no earlier or current supply, the payment will be treated as payment of the damages claim and will not be consideration for a supply at all, regardless of whether there is an identifiable discontinuance supply under the settlement.

As there is no 'earlier or current supply' that is related to the payment of compensation then the damages claim does not give rise to any supply. Notwithstanding that your acceptance of the terms contained in the compensation agreement may amount to supplies within the meaning of paragraphs 9-10(2)(e) or 9-10(2)(g) GST Act, no part of the amount paid as compensation is consideration for these supplies. The subject of the dispute, being the settlement of damages claims between the parties in relation to the activities conducted on the land is what the compensation is paid for.

The compensation received relates to damages suffered by the landholder because of activities carried out by the company on your land and is not consideration for a supply. No supply will be made by you. As no part of the compensation is attributable to discontinuance supplies, there are no GST consequences for the discontinuance supplies. As the compensation is not considered to be consideration for a supply its receipt will not give rise to a GST liability and does not require you to register for GST.

By contrast, you are voluntarily selling resources to the company and making a supply in the course or furtherance of your enterprise. You will incur a GST liability on the receipts from the resource sales.