Edited version of private advice

Authorisation Number: 1052260700134

Date of advice: 12 June 2024

Ruling

Subject: Capital gains tax

Question 1

Did a CGT event D1 happen under subsection 104-35(1) of the Income Tax Assessment Act 1997 (ITAA 1997) when the taxpayers entered into a Deed with a property developer?

Answer

Yes.

Question 2

If the answer to question 1 is yes, is the full amount the taxpayers received pursuant to the Deed considered to be capital proceeds under section 116-20 of the ITAA 1997 when CGT event D1 happens?

Answer

Yes.

Question 3

Are the costs associated with preparing and finalising the Deed considered to be incidental costs in determining the amount of capital gain made under subsection 104-35(3) of the ITAA 1997?

Answer

Yes.

Question 4

If the answer to Question 1 is yes, where a capital gain is made, will Division 115 of the ITAA 1997 apply to make it a discount capital gain?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

1             The taxpayers are the registered owners of land.

2              The land was acquired by the taxpayers before 20 September 1985 and is a pre-CGT asset of theirs as defined in section 149-10 of the ITAA 1997.

3              A property developer owns land adjacent to the land owned by the taxpayers.

4              The property developer wanted the taxpayers to enter into an agreement with Council in respect of their land that would allow the development application lodged by the property developer to be approved by the Council.

5              After a period of negotiation, the taxpayers agreed to enter into an agreement with Council that required the taxpayers to do things in relation to their land, which did not result in any compensation being paid by Council.

6              Nothing the taxpayers agreed to do resulted in a disposal, or part disposal, of their land.

7              In return for agreeing to do things to their land the taxpayers received various amounts from the property developer.

8              A Deed was entered into between the taxpayers and the property developer that required the taxpayers to undertake certain actions for which entitled them to receive consideration under the Deed for the resulting loss in the value of the taxpayers property, covenanting to enter an agreement with the Council and to cover the legal fees associated with the negotiations and preparation of the Deed.

9              The Deed provided the property developer with the rights to take legal action against the taxpayers if the taxpayers did not complete the things they agreed to do.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 subsection 100-25(1)

Income Tax Assessment Act 1997 subsection 104-35(1)

Income Tax Assessment Act 1997 subsection 104-35(2)

Income Tax Assessment Act 1997 subsection 104-35(3)

Income Tax Assessment Act 1997 subsection 104-35(5)

Income Tax Assessment Act 1997 paragraph 104-35(5)(b)

Income Tax Assessment Act 1997 subsection 110-35(1)

Income Tax Assessment Act 1997 subsection 110-35(2)

Income Tax Assessment Act 1997 Division 115

Income Tax Assessment Act 1997 subsection 115-25(1)

Income Tax Assessment Act 1997 paragraph 115-25(3)(a)

Income Tax Assessment Act 1997 section 116-20

Income Tax Assessment Act 1997 subsection 116-20(1)

Income Tax Assessment Act 1997 section 149-10

Reasons for decision

All legislative references are to the ITAA 1997, unless otherwise stated.

Question 1

Did a CGT event D1 happen under subsection 104-35(1) when the taxpayers entered into a Deed with a property developer?

Summary

CGT event D1 happened when the Deed was executed.

Detailed reasoning

1              Subsection 100-25(1) states:

Most CGT events involve a CGT asset. (For many, there is an exception if the CGT asset was acquired before 20 September 1985.) However, many CGT events are concerned directly with capital receipts and do not involve a CGT asset.

2              One of the CGT events that is concerned directly with capital receipts and not a CGT asset is a CGT event D1.

3              Subsection 104-35(1) states:

CGT event D1 happens if you create a contractual right or other legal or equitable right in another entity.

Example:

You enter into a contract with the purchaser of your business not to operate a similar business in the same town. The contract states that $20,000 was paid for this.

You have created a contractual right in favour of the purchaser. If you breach the contract, the purchaser can enforce that right.

4              In respect of a CGT event D1, paragraph 1 of Taxation Determination TD 1999/82 Income tax: capital gains: can you acquire a contractual or other legal or equitable right even though there may be no tax consequences for the entity creating the right? states,

CGT event D1 (about creating contractual or other rights) in section 104-35 of the Income Tax Assessment Act 1997 happens if one entity creates a contractual right or other legal or equitable right in another entity. The event still occurs even if there is no capital gain or loss for the entity creating the right (paragraph 102-23(a)).

5              By entering the Deed, the taxpayers created contractual and other rights in the property developer resulting in the condition in subsection 104-35(1) to be met and therefore for CGT event D1 to happen.

6              To meet their obligations under the Deed the taxpayers had to undertake certain actions for which they received consideration under the Deed.

7              However, CGT event D1 will not arise if the following relevant exclusion in paragraph 104-35(5)(b) applies:

the right requires you to do something that is another *CGT event that happens to you

8              There is no other CGT event that will happen to the taxpayers in relation to entering into the Deed or to the land, as the taxpayers have not disposed of any part of land and have retained full ownership of the land.

9              Subsection 104-35(2) states:

The time of the event is when you enter into the contract or create the other right.

10           Therefore, CGT event D1 will happen when the taxpayers entered into the Deed.

Question 2

If the answer to question 1 is yes, is the amount received pursuant to the Deed considered to be capital proceeds under section 116-20 when CGT event D1 happens?

Summary

The amounts received under the Deed is the capital proceeds the taxpayers received when CGT event D1 happened.

Detailed reasoning

11           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).

Note 1:

The timing rules for each event are in Division 104.

Note 2:

In some situations you are treated as having received money or other property, or being entitled to receive it: see section 103-10.

Note 3:

If you dispose of shares in a buy-back, the capital proceeds are worked out under Division 16K of the Income Tax Assessment Act 1936.

12           As CGT event D1 happened when the taxpayers entered into the Deed with the property developer, the amount the taxpayers received to undertake the things required under the Deed represents the amount of capital proceeds in respect of this event happening under subsection 116-20(1).

Question 3

Are the costs associated with preparing and finalising the Deed considered to be incidental costs in determining the amount of capital gain made under subsection 104-35(3)?

Summary

The expenditure incurred by the taxpayers for legal advice relating to the negotiations, preparation and registration of the Deed are the incidental costs under subsection 110-35(2) in determining the amount of capital gain made under subsection 104-35(3).

Detailed reasoning

13           Subsections 110-35(1) and (2) states:

(1)          There are a number of incidental costs you may have incurred. Except for the ninth, they are costs you may have incurred:

(a) to *acquire a *CGT asset; or

(b) that relate to a *CGT event.

(2) The first is remuneration for the services of a surveyor, valuer, auctioneer, accountant, broker, *agent, consultant or legal adviser. However, remuneration for professional advice about the operation of this Act is not included unless it is provided by a *recognised tax adviser.

Note: Expenditure for professional advice about taxation incurred before 1 July 1989 does not form part of the cost base of a CGT asset: see section 110-35 of the Income Tax (Transitional Provisions) Act 1997.

14           The taxpayers received legal advice that culminated in the negotiations, preparation and registration of the Deed. Only the amounts they incurred for legal advice that led to the creation of the rights by entering into the Deed fall within the incidental costs set out in subsection 110-35(2). Any part of the invoices that did not relate to the creation of the rights, do not fall within incidental costs.

Question 4

If the answer to Question 1 is yes, where a capital gain is made, will Division 115 apply to make it a discount capital gain?

Summary

As the capital gain made arose from CGT event D1 happening, it will not be a discount capital gain under subsection 115-25(3).

Detailed reasoning

15           Subsection 115-25(1) states:

To be a *discount capital gain, the *capital gain must result from a *CGT event happening to a *CGT asset that was *acquired by the entity making the capital gain at least 12 months before the CGT event.

16           However, under paragraph 115-25(3)(a) where the capital gain made is as a result of CGT event D1 happening, it is not a discount capital gain.

17           Therefore, the capital gain that will arise when CGT event D1 happened on entering the Deed will not be a discount capital gain.