Edited version of private advice

Authorisation Number: 1052134121901

Date of advice: 29 June 2023

Ruling

Subject: Retirement village

Question 1

Will the receipt and repayment of the loan arrangement be treated as an effective loan and therefore the receipt of the loan will not be treated as assessable either as income or a capital gain on capital account?

Answer

Yes.

Question 2

Will the Deferred Payment payable by the Resident be treated as assessable income under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) in the year in which the Contract is terminated and X has the right to demand payment?

Answer

Yes.

Question 3

Are any amounts received or retained on forfeiture of the Preliminary Loan Amount assessable income of X under section 6-5 of the ITAA 1997?

Answer

Yes.

Question 4

Will the following amounts of receipts titled "interest" payable be assessable income under section 6-5 of the ITAA 1997 to X?

(a) Amounts in respect to the Preliminary Loan made by the resident;

(b) Amounts in relation to late payment of the Loan Amount;

(c) Interest on moneys paid by the Resident to the Owner prior to the Resident becoming entitled to possession of the dwelling;

(d) Amounts in respect of any late payment of the loan moneys under clause x of the Agreement.

Answer

Yes.

Question 5

Will the repayment to the Resident of the resident loan by X after termination of the arrangement result in a net forgiven amount under Division 245 of the ITAA 1997?

Answer

No.

Question 6

Will the assignment of loan/lease arrangements to a new owner and the release of X from its liabilities to residents result in a net forgiven amount under Division 245 of the ITAA 1997?

Answer

No.

Question 7

Does the Agreement, Loan Agreement and Contract satisfy the taxation of financial arrangements exemption in respect of retirement villages in subsection 230-475(3) of the ITAA 1997?

Answer

Yes.

Question 8

Are interest and land holding costs incurred during the development phase of the project deductible under section 8-1 the ITAA 1997 as expenses incurred in gaining assessable income or in carrying on a business?

Answer

Yes.

Question 9

If the disposal of the village occurs at some time in the future will the amount to be included as consideration under section 116-55 of the ITAA 1997 and paragraph 116-20(1)(b) of the ITAA 1997 in respect of the agreements be the face value of the loans owing to the Residents at the time of disposal?

Answer

Yes.

Question 10

Are amounts payable to outgoing residents that represent the amount by which the New Loan Amount paid by an incoming Resident exceeds the Loan Amount paid by an outgoing Resident, deductible for X under section 8-1 of the ITAA 1997?

Answer

Yes.

Question 11

Are amounts received from outgoing residents that represent the amount by which the Loan Amount paid by an outgoing Resident exceeds the New Loan Amount paid by an incoming resident, included in X's assessable income under section 6-5 of the ITAA 1997?

Answer

Yes.

Question 12

Are the Fixed Payments received under the Contract, assessable income of X under section 6-5 of the ITAA 1997 (other than the amount of the Fixed Payments contributed to the Sinking Fund)?

Answer

Yes.

Question 13(a)

Are amounts paid into the separate trust Sinking Fund assessable income to X at that time under section 6-5 of the ITAA 1997?

Answer

No.

Question 13(b)

Are amounts paid into the separate trust Sinking Fund assessable income to the Trustee of the Sinking Fund at that time under section 6-5 of the ITAA 1997?

Answer

No.

Question 14

Is X assessable under section 6-5 of the ITAA 1997 when they are entitled to seek reimbursement of expenditure from the Sinking Fund?

Answer

Yes.

Question 15

Is X entitled to a deduction under section 8-1 of the ITAA 1997 for operating expenditure they have incurred, when they are entitled to seek reimbursement from the Sinking Fund?

Answer

Yes, subject to the exclusions in subsection 8-1(2) of the ITAA 1997.

Question 16

Will the Trustee of the Sinking Fund be taxable under section 99A of the Income Tax Assessment Act 1936 (ITAA 1936) on any interest income derived by the Fund (though not on contributions to the Sinking Fund)?

Answer

Yes.

This ruling applies for the following periods

Income years ended 30 June 20xx to 30 June 20XX

The scheme commenced on

1 July 202x

Relevant facts and circumstances

X owns and operates a retirement village in Australia and enters into various agreements with incoming residents.

Agreement

Under the Agreement the X agrees to grant to the Resident and the Resident will accept from X a lease of the premises on the terms set out in the Contract.

The Resident must pay to X the Preliminary Loan Amount

X is entitled to any interest which accrues on the Preliminary Loan Amount.

The Resident must pay the Loan Amount and the Pre-paid Rent on or before the Commencement Date. If the Resident fails to pay the Loan Amount or the Pre-paid Rent in full as required X may terminate the Agreement. In the event of termination, the Preliminary Loan Amount is forfeited to X.

If the Resident defaults in payment of any part of the Loan Amount or the Pre-paid Rent, the Owner is entitled to interest at a rate being 2% higher than the rate for the time being fixed under the relevant state legislation

Loan Agreement

The Resident agrees to advance the Loan Amount to X by way of an interest free loan.

Subject to state legislation, the Loan Amount is to be repaid to the Resident on the earlier of certain times.

The Resident acknowledges that X has the right to transfer or assign its rights with respect to the Village. This will include a covenant by the assignee to observe and perform the terms covenants and conditions that X is to observe and perform under the Loan Agreement.

Any interest on moneys paid under the Loan Agreement prior to the Resident being entitled to occupancy is to be paid to the person ultimately entitled to the moneys (generally X).

Where the Resident defaults in the payment of any money due under the Loan Agreement X is entitled to interest at a rate fixed under the relevant state legislation

Contract

The Contract provides for a Fixed Payment and a Deferred Management Fee. X must pay out of the Fixed Payment an amount equal a percentage of the New Loan Amount into the Sinking Fund.

The Contract continues for a period of x years. Notwithstanding, the lease will terminate upon the happening of various events (for example, on the death of the Resident, upon the expiration of 90 days after the date of which the resident gives written notice to X of the Resident's intention to terminate this Contract and the Resident providing X with vacant possession of the Resident's Premises, or a breach of the terms of the Contract).

The Contract requires various amounts to be paid by the Resident to X including:

(a) Pre-paid Rent and the Loan Amount.

(b) Maintenance Charges, Sinking Fund Contribution, Rates and Taxes, and costs and charges for Utilities.

(c) Where the Contract is terminated: the Deferred Payment, the Fixed Payment, an amount, if any, by which the Loan Amount exceeds the New Loan Amount.

Amounts payable by the Resident must be offset against the Loan Amount to be refunded to the Resident by X and they must pay to the Resident, after offsetting certain fees, costs and charges:

•         the Loan Amount pursuant to the Loan Agreement; and

•         the amount (if any) by which the New Loan Amount exceeds the Loan Amount.

X agrees to hold the contributions to the Sinking Fund on trust in a separate bank account.

After receipt of the Fixed Payment from the Resident, X agrees to pay from the Fixed Payment an amount equal to a fixed percentage of the New Loan Amount into the Sinking Fund.

X may use the Sinking Fund specific purposes.

The Contract requires X to hold the money in the Sinking Fund on trust for the benefit of residents. X cannot use the money in the account for any purpose that is not included in the relevant clauses in the Contract.

The relevant state legislation requires financial statements for the Sinking Fund to be prepared and presented at the annual meeting and these statements are required to be audited by a registered company auditor. Audited financial statements including the Sinking Fund have been provided.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Division 245

Income Tax Assessment Act 1997 Section 245-40

Income Tax Assessment Act 1997 Section 245-35

Income Tax Assessment Act 1997 Section 230-475

Income Tax Assessment Act 1997 Subsection 230-475(3)

Income Tax Assessment Act 1997 Section 116-20

Income Tax Assessment Act 1997 Section 116-55

Income Tax Assessment Act 1996 Section 99A

State Legislation and regulations

Banking Act 1959 (Cth)

Reasons for decision

Question 1

Summary

The Loan Amount paid by a Resident to X under the Agreement is a loan for income tax purposes and therefore the receipt and repayment of the Loan Amount will be on capital account. The Loan Amount will not be treated as assessable, as ordinary income or a capital gain.

Detailed reasoning

Taxation Ruling2002/14: Income tax: taxation of retirement village operators gives the Commissioner's view on the taxation treatment of income derived by retirement village operators and developers.

In some circumstances an amount paid to a retirement village operator for a right to occupy a unit will be treated as an assessable lease premium on revenue account and constitutes assessable income of the operator in the year in which it is derived, (paragraph 25 of TR 2002/14).

However, in other circumstances the amount is fully repayable to the resident (although the village operator may be entitled to offset certain fees and charges against that amount) on termination of the lease. In this situation, the amount is not payable for the grant of a lease, it is more properly characterised as a loan. It is a receipt that is capital in nature. The taxation treatment is the same for amounts known as 'interest-free loans' or 'security deposits' (paragraph 27 of TR 2002/14).

Paragraph 28 of TR 2002/14 states that where the relevant arrangement requires the resident to make a loan, the receipt and repayment of the loan are on capital account. This situation arises where:

•         an amount of money (sometimes referred to in retirement village contracts as an 'interest-free loan' or 'security deposit') is paid to a retirement village operator by an incoming resident; and

•         the operator has an obligation to pay the same amount to the resident upon termination of the lease.

However, paragraph 29 of TR 2002/14 goes on to explain that where a loan amount, even though it may be described as an 'interest-free loan' or a 'security deposit', is not repayable to the outgoing resident upon termination of the lease, it is regarded as a lease premium, prepayment of rent or other fee. Similarly if repayment of the 'loan' is contingent upon a new resident being found, an event that may not happen, then an essential element of a loan - the obligation to repay - is absent. That is, if an outgoing resident not entitled to repayment of the 'loan' if a new resident is not found, the arrangement is not properly characterised as a loan and will be regarded as a lease premium.

Conclusion

In this case under the Agreement, the Resident agrees to advance the Loan Amount to X by way of an interest free loan and subject state legislation. The Loan Amount is to be repaid to the Resident on the earlier of certain events.

In these circumstances, the amount paid by residents under the Loan Agreement is treated as a loan and is on capital account, the Loan Amount not assessable as ordinary income or a capital gain.

Question 2

Summary

The Deferred Payment is assessable to X under section 6-5 of the ITAA 1997 in the year in which they become entitled to demand payment of the fee from the outgoing resident.

Detailed reasoning

The Contract requires certain amounts to be paid by the Resident to X including management fees.

Paragraphs 39 to 41 of TR 2002/14 considers deferred management fees as follows:

Deferred management fees

39. Under some occupancy agreements, deferred management fees are calculated, on a per annum basis, as a percentage of a resident's original entry price. The deferred management fee is usually subject to an upper limit (e.g., 2.5% of the original entry price for each of the first ten years that the resident occupies the village dwelling - i.e., a maximum of 25% of the original entry price). However, the village operator cannot properly demand payment of the fee until the resident ceases to reside in the accommodation unit to which the contract relates. That is a condition precedent to the making of a demand for payment. Until the condition precedent is satisfied, the fee does not mature into a recoverable debt. Accordingly, the deferred management fee payable by an outgoing resident is derived by a village operator in the year in which the operator becomes entitled to demand payment of the fee from the outgoing resident.

40. Under other occupancy agreements, deferred management fees are calculated as a percentage of the entry price that is to be paid by the replacement resident. In this situation, the amount of the deferred management fee payable by an outgoing resident cannot be ascertained with certainty, nor can the village operator properly demand payment of the fee until the amount payable by the new resident has been determined. That will usually occur when a new resident has entered into an agreement that grants occupancy rights of the accommodation unit vacated by the outgoing resident. If that is the case, the fee payable by the outgoing resident is derived by the village operator in the year in which the new resident enters into an occupancy agreement.

41. Where the amount payable by a new resident is properly characterised as a lease premium and the amount of the premium is included in the operator's assessable income, the deferred management fee is not included in the operator's assessable income in accordance with paragraphs 39-40. The deferred management fee is relevant only in relation to the calculation of the amount payable to the outgoing resident.

Most agreements allow for a condition precedent to the making of a demand for payment. Until the condition precedent is satisfied, the fee does not mature into a recoverable debt. Accordingly, the deferred management fee payable by an outgoing resident is derived by a village operator in the year in which the operator becomes entitled to demand payment of the fee from the outgoing resident.

Conclusion

In this case, the Deferred Payment is defined and payable by a Resident upon the earlier of certain events.

X can only demand the Deferred Payment when one of these events occurs. The amount will be assessable income under section 6-5 of the ITAA 1997, in the year in which X becomes entitled to demand payment of the fee from the outgoing Resident.

Question 3

Summary

Amounts received or retained on forfeiture of the Preliminary Loan are assessable income of X under section 6-5 of the ITAA 1997.

Detailed reasoning

Clauses of the Agreement outline that where a Resident fails to pay the Loan Amount, Pre-paid Rent or relevant interest as required, X may serve the Resident with a notice requiring them to remedy the default within a set period.

If the default is not remedied X may terminate the Agreement and all payments of interest is forfeited to X.

As X is in the business of developing and operating retirement villages, which includes the entering into loan arrangements with residents, any amounts retained by X as a result of a resident not proceeding with the agreements will represent assessable income under section 6-5 of the ITAA 1997.

Under subsection 245-40(b) of the ITAA 1997 the debt forgiveness provisions do not apply as the amount of the debt has been, or will be, included in the assessable income of the debtor in any income year.

Question 4

Summary

The amounts received that comprise "interest" payable in respect of the preliminary loan made by the Resident and any late payment of the loan moneys are all assessable income of X under section 6-5 of the ITAA 1997.

Detailed reasoning

Under the Agreement the Preliminary Loan Amount is to be paid to X on or before signing the agreement.

The Agreement provides that any interest which accrues on the Preliminary Loan Amount must be paid to X. Any such interest is income and therefore assessable to X.

The Resident must also pay X interest on overdue moneys at a prescribed rate in the event that the Loan Amount is not paid by the due date.

The interest compensates X for holding the premises where the Resident has not proceeded with the arrangements on time. As this is a normal part of X's business, the amounts will be considered assessable income under section 6-5 of the ITAA 1997.

Question 5

Summary

The repayment to the Resident of the resident loan by X after termination of the Contract will not result in a net forgiven amount under Division 245 of the ITAA 1997.

Detailed Reasoning

Section 245-35 of the ITAA 1997 states:

A debt is forgiven if and when:

(a) the debtor's obligation to pay the debt is released or waived, or is otherwise extinguished other than by repaying the debt in full; or

(b) the period within which the creditor is entitled to sue for the recovery of the debt ends, because of the operation of a statute of limitations, without the debt having been paid.

This debt is not released or waived, instead it is repaid.

Under the Contract, the full amount of the loan is required to be repaid by X to the Resident after termination of the Contract.

On the termination of the Contract, the Resident must pay X various amounts including the Deferred Payment, the Fixed Payment, and the amount (if any) by which the New Loan Amount is less than the Loan Amount.

The Contract allows X to offset the amounts owed by the Resident against the Loan Amount due by X to the Resident. It is considered that this set-off does not negate the existence of X's obligation to repay the Loan Amount. No amount of the Loan Amount is forgiven.

Question 6

Summary

The assignment of the loan/lease arrangements to a new Owner and the release of X from its liabilities to Residents pursuant to the Contract, will not result in a net forgiven amount under Division 245 of the ITAA 1997.

Detailed reasoning

Paragraphs 56 and 57 of TR 2002/14 read as follows:

56. The sale of the village is a CGT event A1, under section 104 10.

57. The capital proceeds from the event include the following:

•         any money received for the sale (paragraph 116-20(1)(a));

•         the amount of any secured liabilities assumed by the new village owner (section 116-55); and

•         the market value of any other property received, such as a right in the nature of a contractual promise by the purchaser of the village to pay amounts to outgoing residents for unused rent in advance (paragraph 116-20(1)(b)).

A change of ownership of the Village will result in the release of X from its obligations under the Agreement and the assumption of those obligations by the New Owner. The assumption of those obligations by the New Owner is included in X's capital proceeds.

SECTION 245-65 Amount offset against amount of debt

245-65(1)

The table explains how to work out the amount (if any) that is offset against the value of a debt when it is forgiven (calculated under section 245-55, 245-60 or 245-61) in working out the gross forgiven amount of the debt.

Table 1: This table explains how to work out the gross forgiven amount of the debt

If the debt forgiveness rules apply, under the table in subsection 245-65(1) of the ITAA 1997:

•         Item 2, the gross forgiven amount of the X's debt to the Residents is reduced by the market value, at the time of the forgiveness, of any property that X gives to Residents in relation to the forgiveness of the X's debt to Residents.

•         Item 3, the gross forgiven amount is the market value of the debt at the time of the forgiveness

As provided in the Agreement X gives to Residents, there is a covenant that a New Owner will repay the debt to Residents and otherwise comply with the terms of the Agreement.

As the total amount of debt is assumed by the New Owner, there is no net or gross forgiven amount that will apply on the assignment of the debt from X to the New Owner.

Question 7

Summary

The Agreement will satisfy the taxation of financial arrangements exemption in respect of retirement villages in subsection 230-475(3) of the ITAA 1997.

Detailed reasoning

Provisions relating to the taxation of financial arrangements are contained in Division 230 of the ITAA 1997. Section 230-475 provides certain exceptions to the application of these provisions including an exception related to retirement villages in subsection (3) which provides as follows:

The following rights and obligations are the subject of an exception:

(a) a right or obligation arising under a retirement village residence contract;

(b) a right or obligation arising under a retirement village services contract;

(c) a right or obligation arising under an arrangement under which residential care or flexible care is provided.

Relevant definitions are provided at subsection 230-475(4) as follows:

For the purposes of subsection (3):

(a) a retirement village residence contract is a contract that gives rise to a right to occupy residential premises in a retirement village; and

(b) a retirement village services contract is a contract under which a resident of a retirement village is provided with general or personal services in the retirement village.

The Agreements and Contract together provide a Resident with the right to occupy the Resident's Premises in the Village and to receive services. It is therefore considered that the exception under subsection 230-475(3) of the ITAA 1997 will apply during the period between:

• the first day on which the Agreement and Contract have all been entered into by X and the Resident; and
• the day the Resident ceases to have a right to occupy the Resident's Premises.

Question 8

Summary

Interest and land holding expenses incurred during the development phase of the project are deductible under section 8-1 of the ITAA 1997.

Detailed reasoning

Division 26 of the ITAA 1997 was amended, with effect that from 1 July 2019, so that income tax deductions for expenses associated with holding vacant land are limited.

Under section 26-102 of the ITAA 1997, income tax deductions to taxpayers will be denied for losses and outgoings incurred in holding vacant land, regardless of when acquired, to the extent the land is not at the time of incurring the expense or outgoing:

•         used or held available for use by the entity or certain associates in the course of carrying on a business in order to earn assessable income.

The limiting provision does not apply in this situation where, among other considerations, a business is being carried on. Therefore factors outside of Division 26 will be considered.

TR 2002/14 at paragraph 19 states that where a village operator develops or acquires a retirement village to conduct the business of granting occupancy rights to village residents, the costs of acquiring or developing the village is expenditure of a capital nature. Paragraphs 104 to 109 expand this as follows:

104. A village operator who incurs costs in developing, constructing or acquiring a retirement village for the purpose of carrying on a retirement village business and grants occupancy rights to village residents, acquires a profit yielding subject. The outgoings are clearly capital or capital in nature.

105. In Sun Newspapers Ltd v. FC of T, ^F15 Dixon J said:

The distinction between expenditure and outgoings on revenue account and on capital account corresponds with the distinction between the business entity structure or organisation set up or established for the earning of profit and the process by which such an organisation operates to obtain regular returns by means of regular outlay, the difference between the outlay and returns representing profit or loss.^F16

106. This was described as the difference between the profit yielding subject and the process of operating it.^F17 In determining the true character of the expenditure, three matters must be considered:

... (1) the character of the advantage sought, and in this its lasting qualities may play a part, (2) 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 (3) the means adopted to obtain it; that is by providing a periodical reward or outlay to cover its use or enjoyment for periods commensurate with the payment or by making a final provision or payment so as to secure future use or enjoyment.^F18

107. A retirement village constructed for operating a business over time will bring in receipts or profits over the period it is held. Profits come from granting of occupancy rights to the real estate, which is at all times owned by the village operator. A significant advantage will be obtained by the operator on the grant of the first long-term leases or licences, as well as long-term benefits. Payments will be made by new residents on the grant of new leases, which may be expected to exceed payments to outgoing residents or their estates. Deferred management fees may also be offset against amounts payable to outgoing residents.

108. In the case of villages which are not fully resident-funded, because the entry price is significantly less than cost recovery, the long-term benefits represent a greater part of the benefits derived from the expenditures.

109. It is clear that the cost of land, development and construction costs result in a profit yielding subject, notwithstanding that major benefits will also be obtained within the first few years. Accordingly the expenditure should be treated as capital in nature.

The interest and holding costs are not the acquisition, development and construction costs.

Section 8-1 of the ITAA 1997 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature. It is not necessary that the expenditure in question should produce assessable income in the same year in which the expenditure is incurred.

Taxation Ruling TR 2004/4 Income tax: deductions for interest incurred prior to the commencement of, or following the cessation of, relevant income earning activities at paragraph 9, in considering the decision of the High Court in Steele v. Deputy Commissioner of Taxation (1999) 99 ATC 4242; (1999) 41 ATR 139 (Steele's Case) concludes that interest incurred in a period prior to the derivation of relevant assessable income will be incurred in gaining or producing the assessable income in the following circumstances:

•         the interest is not incurred 'too soon', is not preliminary to the income earning activities and is not a prelude to those activities;

•         the interest is not private or domestic;

•         the period of interest outgoings prior to the derivation of relevant assessable income is not so long, considering the kind of income earning activities involved, that the necessary connection between outgoings and assessable income is lost;

•         the interest is incurred with one end in view, the gaining or producing of assessable income; and

•         continuing efforts are undertaken in pursuit of that end.

Conclusion

In this instance the property was being developed with a view to deriving assessable income. The length of time from purchase to the derivation of income will not be so long that the connection between the expense and assessable income is lost. X is carrying on a development and leasing business and development and marketing activities have commenced. These expenses are incurred with regard to property to be used solely for income producing purposes.

In these circumstances, X is entitled to a deduction for holding expenses and interest under section 8-1 of the ITAA 1997.

Question 9

Summary

If the disposal of the village occurs at some time in the future, the amount to be included as consideration under section 116-55 of the ITAA 1997 and paragraph 116-20(1)(b) of the ITAA 1997, in respect of the agreements, will be the face value of the loans owing to the Residents at the time of disposal.

Detailed reasoning

A change of ownership of the Village results in the release of X from obligations under the Agreements. These obligations are assumed by the New Owner.

Under the Loan Agreement, where X transfers or assigns its rights to an assignee, X serves a notice on Residents containing, among other items, a covenant by the assignee to observe and perform the terms, covenants and conditions that X is to observe and perform under the Agreements.

Section 116-55 of the ITAA 1997 contains a modification to the general rules, an assumption of liability rule, as follows:

The capital proceeds from a CGT event are increased if another entity acquires the CGT asset (the subject of the event) subject to a liability by way of security over the asset.

They are increased by the amount of the liability the other entity assumes.

Example: You sell land for $150,000. You receive $50,000 (the capital proceeds) and the buyer becomes responsible for a $100,000 liability under an outstanding mortgage. The capital proceeds are increased by $100,000 to $150,000.

Section 116-20 of the ITAA 1997 has general rules about capital proceeds. Subsection 116-20(1) states:

The capital proceeds from a CGT event are the total of:

(a) the money you have received, or are entitled to receive, in respect of the event happening; and

(b) the market value of any other property you have received, or are entitled to receive, in respect of the event happening (worked out as at the time of the event).

Section 116-55 states that capital proceeds are increased if another entity acquires the CGT asset subject to a liability by way of security over the asset.

Paragraph 116-20(1)(b) of the ITAA 1997 states that the capital proceeds from a CGT event include the market value of any property received in respect of the event.

Paragraphs 56-57 of TR 2002/14 states the following regarding Capital Gains Tax on the sale of a retirement village:

56. The sale of the village is a CGT event A1, under section 104-10.

57. The capital proceeds from the event include the following:

•         any money received for the sale (paragraph 116-20(1)(a));

•         the amount of any secured liabilities assumed by the new village owner (section 116-55); and

•         the market value of any other property received, such as a right in the nature of a contractual promise by the purchaser of the village to pay amounts to outgoing residents for unused rent in advance (paragraph 116-20(1)(b)).

Conclusion

Property received from the sale could include a right in the nature of a contractual promise by a purchaser of the village to pay amounts to outgoing residents for unused rent in advance. A contractual promise to repay loan amounts owing to outgoing residents could also be property received from the sale.

The Loan Amount is specified in the Agreement. The Loan Amount must be repaid in accordance with the Agreement and is subject to any other relevant provisions of the applicable state legislation. It is a non-contingent amount owed to the Resident at the time of disposal.

At the time of disposal, in accordance with the Agreement, X must enter into an assignment agreement which contains a covenant by the assignee to observe and perform the terms and covenants and conditions that X is to observe and perform under the Agreement.

It is considered that under section 116-55 and paragraph 116-20(1)(b) of the ITAA 1997, the capital proceeds from any future sale of the Village will be increased by the amount of the liabilities to Residents assumed by the purchaser.

Question 10

Summary

Payments made to Residents under the Contract, representing an amount by which the New Loan Amount paid by an incoming Resident exceeds the Loan Amount paid by an outgoing Resident, are allowable deductions under section 8-1 of the ITAA 1997.

Detailed reasoning

Paragraph 50 of TR 2002/14 says:

50. Where a village operator, in addition to repaying the deposit or loan received by a village operator upon the grant of a lease, makes a payment to an outgoing resident (or to their legal personal representatives) that represents a share of any increase in the entry price payable by a new resident (that is, the difference between the entry price paid by the outgoing resident and the entry price payable by the new resident), such payments are deductible under section 8-1.

Conclusion

Under the Contract X must pay to the outgoing Resident the Loan Amount and any amount by which the New Loan Amount exceeds the Loan Amount.

The payments constitute a regular outgoing incurred by X in the ordinary course of its business as a retirement village operator. The payments do not represent consideration for the acquisition of a capital asset of the business or otherwise contribute to the capital structure of the business. In these circumstances, the outgoings are deductible under section 8-1 of the ITAA 1997.

Question 11

Summary

An amount payable by an outgoing Resident that represents the amount by which the Loan Amount paid by the outgoing Resident exceeds the New Loan Amount paid by an incoming Resident is included in X's assessable income under section 6-5 of the ITAA 1997.

Detailed reasoning

An amount payable by an outgoing Resident is an amount, if any, by which the Loan Amount exceeds the New Loan Amount and is to be paid by the Resident to X. This represents a regular receipt from the ordinary course of the business of operating the retirement village. The payments do not represent consideration for the disposal of a capital asset of the business or otherwise relate to the capital structure of the business. In these circumstances, the receipts are in the nature of ordinary income and assessable under section 6-5 of the ITAA 1997

Questions 12 and 13

Summary

The receipt of the Fixed Payment is assessable income of X under section 6-5 of the ITAA 1997, except to the extent that it is contributed to the Sinking Fund.

Amounts paid into the separate trust Sinking Fund are not assessable income to X or the Trustee of the Sinking Fund, at that time under section 6-5 of the ITAA 1997, whether received by X and transferred into the trust fund under the relevant clauses of the Contract, or where the Resident deposits the amount to the Sinking Fund directly.

Detailed reasoning

The Fixed Payment is received as part of the business of operating the retirement Village and is therefore assessable to X under section 6-5 of the ITAA 1997.

Under the Contract, X is required to contribute an amount out of the Fixed Payment equal to x% of the Loan Amount to the Sinking Fund. It is necessary to examine the terms of the Sinking Fund to determine whether that portion of the Fixed Payment is assessable to X or the Trustee of the Sinking Fund.

The Contract requires X to establish and operate the Sinking Fund and collect contributions and hold them on trust in a separate bank account for the purposes of the Sinking Fund.

The Contract provides that on receipt of the Fixed Payment from the resident, X agrees to pay from the Fixed Payment an amount equal to a percentage of the Loan Amount into the Sinking Fund.

TR 2002/14 at paragraphs 43 to 45 states:

Recurring operating costs and sinking fund contributions

43. Residents also usually make payments to the village operator towards operating costs, either directly or into a sinking fund. Where the village owner is responsible for the outgoing, the payments made by the residents are included in the assessable income of the village operator under section 6-5 when they become due and payable by the resident. Operating expenditure that is properly characterised as a revenue expense, including holding charges, is deductible to the village owner under section 8-1 when it is incurred.

44. Where residents' contracts or State legislation regarding retirement villages require residents to pay sinking fund contributions to an independent trustee, or the village operator is required to hold residents' contributions on trust for the benefit of the village residents, these contributions are derived by the village operator when they become entitled to seek reimbursement from the independent trustee or transfer funds held on trust. Although it is necessary to examine the relevant contractual agreements or legislative framework, that entitlement usually arises when the operator has incurred the operating expenditure.

45. As neither the operator nor the residents are income beneficiaries of the trust estate, the income is assessable to the trustee under section 99A of the 1936 Act.

TR 2002/14 provides at paragraphs 165 to168:

Sinking Funds: residents' contributions for village maintenance

165. Under non-strata title occupancy arrangements residents usually contribute to the cost of maintaining the village. Generally, such contributions are paid directly to the village operator as periodic fees. The operator may refer to such fees as sinking fund contributions.

166. Whether these contributions are reflected in a Sinking Fund Account in the village operator's books or placed in a separate bank account of the operator, the contributions are income of the operator and are assessable when they become due and payable by the resident. The contributions are able to be used by the operator at any time for the purpose of maintaining the operator's property.

167. In some cases, the residents' contracts or State legislation require residents to pay sinking fund contributions directly into a trust fund established for that purpose, and the contracts or legislation specify that the funds may only be used for the purpose of maintaining the village. In these circumstances, contributions are considered to be income of the operator only when the operator has incurred operating expenditure and becomes entitled to seek reimbursement of that expenditure from the trustee. They are not income of the trustee as they are contributions of capital to the trust. Amounts received by the operator from the trustee are assessable when the operator has incurred relevant expenditure and becomes entitled to seek reimbursement of that expenditure from the trustee. As there is no beneficiary presently entitled to the income of the trust estate, the trustee is assessed and is liable to pay tax on the net income of the trust estate under section 99A of the 1936 Act.

168. The taxation treatment described in paragraph 167 would also apply where the contributions are paid directly to the village operator in accordance with the residents' contracts and then transferred by the operator to an independent trustee.

Examples 22 to 26 in TR 2002/14 are relevant when considering the terms of the Sinking Fund as defined in the Contract.

Sinking funds

Example 22

217. Moneys regularly contributed by residents towards a sinking fund are reflected in a Sinking Fund Account in the village operator's books, but no separate money account is kept, and the fund mingles with the rest of the village operator's funds. Contributions are assessable income of the village operator when they become due and payable by the residents.

Example 23

218. Moneys regularly contributed by residents towards a sinking fund are reflected in a Sinking Fund Account in the village operator's books. A separate money account is kept, so that the fund does not mingle with the rest of the village operator's funds. However, there is no restriction on withdrawal of funds from the account. Contributions are assessable income of the village operator when they become due and payable by the residents.

Example 24

219. Moneys regularly contributed by residents towards a sinking fund are paid to the village operator. The village operator pays the funds to an independent trustee. The contracts with residents and/or State legislation and/or the trust deed restrict withdrawal of funds from the account until required for sinking fund purposes. Moneys are paid from the fund to the operator upon production of receipts for expenditure incurred. There are no income beneficiaries.

220. Contributions are assessable income of the village operator when the operator incurs relevant expenditure and becomes entitled to seek reimbursement of that expenditure from the trustee. Payments by the village operator to the trustee are not deductible because they are payments of capital into a trust fund. The village operator is a mere conduit for transmission of funds from the residents to the independent trustee. Amounts received by the trustee from the operator are not assessable income because they represent a contribution of capital to the trust fund.

221. Income that is earned by the fund is not income to which anyone is presently entitled and is assessable income of the trustee under section 99A of the 1936 Act. Income retained in the trust fund represents an accretion to the corpus of the fund.

Example 25

222. Residents pay moneys directly into a sinking fund established by the village operator. The trustee of the fund is independent of the operator. Where the residents have an obligation to make payments directly to the trustee, the payments are not included in the assessable income of the village operator in the year in which contributions become due and payable by the residents. As in the previous example, the operator derives assessable income in the year in which relevant expenditure is incurred and the operator becomes entitled to seek reimbursement of that expenditure from the trustee.

223. Income that is earned by the fund is not income to which anyone is presently entitled and is assessable income of the trustee under section 99A of the 1936 Act. Income retained in the trust fund represents an accretion to the corpus of the fund.

Example 26

224. The Retirement Villages Act (Qld) requires the village operator to establish a 'maintenance reserve fund'. The Act states that the operator holds amounts standing to the credit of the fund on trust solely for the benefit of residents in a trust account. Residents are solely responsible for contributing to the fund. The legislation restricts the use of those funds by the operator to maintenance of the operator's village.

225. Amounts paid into the fund by residents do not constitute assessable income of the operator. They are payments of capital into the fund. The operator derives assessable income in the year in which relevant expenditure is incurred and the operator becomes entitled to seek reimbursement of that expenditure from the fund.

226. Income that is earned by the fund is not income to which anyone is presently entitled and is assessable income of the trustee under section 99A of the 1936 Act. Income retained in the trust fund represents an accretion to the corpus of the fund.

Conclusion

Under the Contract, X agrees to pay contributions to the Sinking Fund to be held on trust in a separate bank account. X cannot use the money in the account for any purpose not authorised by the Contract.

The Contract confirms the requirement that Sinking Fund Contributions are held on trust.

Consequently, the part of the Fixed Payment that must be paid by X into the Sinking Fund is not assessable income to X. The Trustee of the Sinking Fund will not be assessable on any contributions to it by X or Residents.

Question 14

Summary

X is assessable under section 6-5 of the ITAA 1997 when they are entitled to seek reimbursement of expenditure from the Sinking Fund.

Detailed reasoning

TR 2002/14 at paragraph 44 considers where residents' contracts require the retirement village operator to hold residents' contributions on trust for the benefit of village residents. The income is derived by the village operator when they become entitled to seek reimbursement from the funds held on trust (underlining added):

44. Where residents' contracts or State legislation regarding retirement villages require residents to pay sinking fund contributions to an independent trustee, or the village operator is required to hold residents' contributions on trust for the benefit of the village residents, these contributions are derived by the village operator when they become entitled to seek reimbursement from the independent trustee or transfer funds held on trust. Although it is necessary to examine the relevant contractual agreements or legislative framework, that entitlement usually arises when the operator has incurred the operating expenditure.

The Contract requires X to establish the Sinking Fund and for the contributions to be held on trust by the Trustee of the Sinking Fund.

Under the Contract the Sinking Fund may be used for certain items of expenditure.

Conclusion

X is assessable when it has derived the income i.e. at the point they are entitled to seek reimbursement from the Sinking Fund account. This occurs in the year that relevant expenditure is incurred by X.

Expenditure that X is entitled to be reimbursed for by the Sinking Fund, and that is assessable income to X is not limited to reimbursements for amounts that are deductible under section 8-1 of the ITAA 1997.

Question 15

Summary

X is entitled to a deduction under section 8-1 of the ITAA 1997 for operating expenditure they have incurred, and to which they are entitled to seek reimbursement from the Sinking Fund. The deduction is subject to the exclusions in subsection 8-1(2) and is not available for outgoings of a capital, private or domestic nature, incurred in relation to gaining or producing exempt income, or non-assessable non-exempt income, or another provision of the ITAA 1997 prevents X from deducting it.

Detailed reasoning

Section 8-1 of the ITAA 1997 allows a deduction for losses and outgoings to the extent they are incurred in gaining or producing assessable income except, among other things, where the outgoings are of a capital, private or domestic nature.

The Sinking Fund may be used for the replacement of certain items. Only operating expenditure that is properly characterised as a revenue expense is deductible to X under section 8-1 of the ITAA 1997 when it is incurred (paragraph 43 of TR 2002/14).

Where payments represent consideration for the acquisition of a capital asset of the business or otherwise contribute to the capital structure of the business, or are private or domestic in nature, the outgoings are not deductible under section 8-1 of the ITAA 1997.

Question 16

Summary

The Trustee of the Sinking Fund will be taxable under section 99A of the ITAA 1936 on the interest derived by the Fund.

Detailed reasoning

Sinking Fund contributions are not income of the Trustee as they are contributions of capital to the Trust.

As there is no beneficiary presently entitled to the income of the Trust, the Trustee is assessed and is liable to pay tax on the net income of the Trust under section 99A of the ITAA 1936.

Income retained in the Trust Fund represents an accretion to the corpus of the fund.