Edited version of private advice

Authorisation Number: 5010074987589

Date of advice: 11 June 2021

Ruling

Subject: Tax treatment of compensation agreement in relation to the use of the land

Question 1

Do the receipts, received under the Buffer Zone Conduct and Compensation Agreement (BCCA) and Early 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

To the extent that the receipts, received under the BCCA and CCA, do not constitute assessable income in accordance with section 6-5 of the ITAA 1997, will the receipt of these amounts constitute capital proceeds under Division 116 of the ITAA 1997 in respect of a CGT event happening?

Answer

No

Question 3:

To the extent that the receipts under the BCCA and CCA do not constitute assessable income in accordance with section 6-5 of the ITAA 1997 and do not constitute capital proceeds under Division 116 of the ITAA 1997 in respect of a CGT event happening; do the compensation amounts reduce the cost base of the properties under subsection 110-40(3) of the ITAA 1997?

Answer

Yes

Question 4:

Will you incur a GST liability pursuant to section 9-40 of A New Tax System (Goods and services Tax) Act 1999 on the receipt of compensation amounts under the CCA and BCCA?

Answer

No

This ruling applies for the following periodperiods:

1 July 20XX to 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

You have provided us with the following relevant facts and information:

You are the legal owner of property purchased after 1985. You run a business on the land.

You entered into the Buffer Zone Conduct and Compensation Agreement (BCCA) and Early Conduct and Compensation Agreement (CCA)with B. The CCA and BCCA are conduct and compensation agreements under the Mineral and Energy Resources (Common Provisions) Act 2014 (Qld) (MERCP Act). C is the holder of a Petroleum Authority and has appointed B to carry out the authorised activities on your property under the Petroleum Authority on its behalf. Broadly, the CCA and BCCA allow for B and its associates to enter onto the property to conduct activities and to compensate you for the resulting harm caused to your property and the interference with your quiet enjoyment of those properties.

Key provisions of the MERCP Act

The MERCP Act, among other things, provides a framework for allowing resource authority holders access onto private land to carry on authorised activities. It also provides a framework for authority holders to compensate landowners for compensatable effects resulting from authorised activities.

'Resource authority' is defined in section 10 of the MERCP Act and includes the Petroleum Authority held by C referred to in the CCA and BCCA.

'Authorised activity' is defined in Schedule 2 of the MERCP Act and has the meaning given by the Act under which the resource authority is granted.

'Private land' is defined in section 13 of the MERCP Act and includes freehold land.

Under subsection 81(1) of the MERCP Act, a resource authority holder is liable to compensate an owner or occupier of private land within the authorised area of a resource authority for each compensatable effect suffered. 'Compensatable effect' is defined in subsection 81(4) and means any of the following caused by the resource authority holder carrying out authorised activities:

•         deprivation of possession of the land's surface

•         diminution of the land's value

•         diminution of the use made, or that may be made, of the land or any improvement on it

•         severance of any part of the land from other parts of the land or from other land that the eligible claimant owns

•         any cost, damage or loss arising from the carrying out of activities under the resource authority on the land, and

•         consequential loss incurred by the eligible claimant arising out of any of the above.

Under section 39 of the MERCP Act, a person is not permitted to enter private land to carry out, among other things, an authorised activity for a resource authority unless the resource authority holder has given each owner and occupier of the land an entry notice about the entry. The owner or occupier of the land may waive this requirement by issuing a waiver of entry notice under section 40 of the MERCP Act. The waiver is operative for the duration stated in the waiver of entry notice, and cannot be withdrawn by the owner or occupier during that period.

Under section 43 of the MERCP Act, a person must not enter private land to carry out an advanced activity for a resource authority unless each owner and occupier of the land is a party to a conduct and compensation agreement about the advanced activity and its effects. The exceptions to this are if the resource authority holder is a party to arbitration under section 91A or proceedings before the Land Court under section 96 of the MERCP Act (see paragraph 43(1)(d) of the MERCP Act). Both the arbitrator (under section 91B) and the Land Court (under section 97) may decide matters relating to the compensation to be provided to eligible claimants for the resource authority holder carrying out advanced activities.

'Advanced activity' is defined in section 15A of the MERCP Act and refers to an authorised activity other than a preliminary activity for the resource authority. 'Preliminary activity' is defined in section 15B of the MERCP Act and refers to an authorised activity for the resource authority that will have no impact, or only a minor impact, on the business or land use activities of any owner or occupier on the land which the activity is to be carried out.

Conduct and compensation agreements are dealt with in Division 2 of Part 7 of the MERCP Act. Subsection 83(1) of the MERCP Act provides that an eligible claimant (such as an owner or occupier of private land) and a resource authority holder may enter into a conduct and compensation agreement about:

•         how and when the holder may enter the land,

•         how authorised activities, to the extent they relate to the eligible claimant, must be carried out, and

•         the resource authority holder's compensation liability to the claimant or any future compensation liability that the holder may have to the claimant.

Key elements of the CCA and BCCA

Purpose of the CCA and BCCA

The CCA and BCCA are drafted very similarly. The background to both the CCA and BCCA provide that both agreements, among other things, do the following:

•         set out how B may carry out the Activities on the Land

•         documents each party's rights and obligations regarding the Activities, and

•         compensate you, the Landholder, for impacts of the Activities.

'Activities' is defined in Schedule 6 of the CCA and Schedule 5 of the BCCA and includes the activities described in Schedule 2 of both the CCA and BCCA and any other associated activities.

'Land' is defined in Schedule 6 of the CCA and Schedule 5 of the BCCA.

Duration of the CCA and BCCA

Clause 5 of both the CCA and BCCA provide that the CCA and BCCA commences on the Agreement Date (4 March 2021) and ends when B gives you notice that it has completed all of the Activities that B proposes to carry out on the Land and the Land is rehabilitated in accordance with Relevant Laws, or that it will not proceed with any Activities.

'B is not required to carry out all or any of the Activities'.

Waiver of notice of entry requirement

Clause 7 of both the CCA and BCCA provide that you give a waiver of the requirement for B to give a notice of entry with respect to the Activities for the duration of the CCA and BCCA.

Compensation payable under the CCA and BCCA

Clause 8 of both the CCA and BCCA provide that B must pay you Compensation in the amount and by the time described in Schedule 1 of both the CCA and BCCA.

Clause 10 of both the CCA and BCCA provide that the Compensation compensates you for all of the following:

•         'Compensatable Effects, Disturbance Impacts and Noise Impacts' arising from, among other things, the Activities, and

•         'other amounts payable by B to the Landholder under Relevant Laws for the Activities'.

'Compensatable Effect' is defined in Schedule 6 of the CCA and Schedule 5 of the BCCA and has the meaning given under the MERCP Act (discussed above).

'Disturbance Impact' is defined in Schedule 6 of the CCA and Schedule 5 of the BCCA and refers to all impacts of light, dust, odour, vibration, vehicular movements and loss of amenity.

'Noise Impact' is defined in Schedule 6 of the CCA and Schedule 5 of the BCCA and refers to any interference with qualities of the acoustic environment on the Land caused or likely to be caused by noise emissions resulting from B's Activities on and off the Land, and includes the types of noises described in Schedule 5 of the CCA and Schedule 4 of the BCCA.

B will pay the following compensation to the Landholder as below:

Access to the Land and carrying out the Activities

Clause 16 of the CCA and BCCA provides that you consent to B and its associates to carrying out the Activities, and you must not hinder or obstruct the Activities.

Clause 17 of the CCA and BCCA provides that B may carry out the activities on the Land throughout the duration of the Agreements in accordance with the terms of the CCA and BCCA.

The activities B is permitted to carry out are set out in detail in Schedule 2 of the CCA and BCCA and broadly relate to construction activities and petroleum production activities. This includes the construction of well under the BCCA and other wells under the CCA. The activities on the property will be part of an overall network of activities carried on in the district by B.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 subsection 110-40(3)

Income Tax Assessment Act 1997 Division 116

Income Tax Assessment Act 1936 subsection 51(1)

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

A New Tax System (Goods and services Tax) Act 1999 section 9-40

Reasons for decision

Questions 1 to 3

Summary

The compensation received should be applied to reduce the cost base of the relevant properties and not included in the assessable income of the landholder.

Detailed reasoning

Section 6-5 of the ITAA 1997 provides that the receipt of ordinary income is included in assessable income of the taxpayer. Ordinary income is defined to mean income according to ordinary concepts. It does not operate to include in a taxpayer's assessable income amounts of a capital nature.

Whether a lump sum or other compensation payment constitutes assessable income in the hands of the recipient depends on whether it is a receipt of a capital or income nature which in turn depends upon a consideration of all the circumstances surrounding the payment. It is the character of the receipt in the hands of the recipient that must be determined. For income tax purposes, a compensation amount generally bears the character of that which it intends to replace.

The starting point in determining the nature of the receipts is to characterise them as either income or capital. Characterising amounts as income or capital is important in determining the correct tax treatment. In Scott v FCT (1966) 117 CLR 514, Windeyer J stated 'whether or not a particular receipt is income depends upon its quality in the hands of the recipient'.

Therefore, whether amounts are income or capital will depend upon what it is that the amount is replacing in your hands. From the perspective of the landholder, you view the payments under the CCA and BCCA as capital in nature as they represent compensation for the diminution in value of your property from the direct and indirect impacts of the activity on your land. It is necessary to undertake a full consideration of all the circumstances surrounding the receipt.

As the High Court stated in G P International Pipecoaters Pty Ltd v Federal Commissioner of Taxation (1990) 170 CLR 124; 90 ATC 4413; (1990) 21 ATR 1 at CLR 138; ATR 7; ATC 4420 (GP International Pipecoater's case):

To determine whether a receipt is of an income or of a capital nature, various factors may be relevant. Sometimes the character of receipts will be revealed most clearly by their periodicity, regularity or recurrence; sometimes, by the character if a right or thing disposed of in exchange for the receipt; sometimes, by the scope of the transaction, venture or business in or by reason of which money is received and by the recipient's purpose in engaging the transaction, venture or business.

This extract from the GP International Pipecoater's case contains within it a sense that the recipient of the amount took some action to generate the receipt. For example, it uses the following phrase 'the character if a right or thing disposed of in exchange for the receipt'. The use of the term 'disposed of' or 'in exchange for the receipt' bring with them the connotation that the recipient took an active part in the transaction that resulted in a receipt. The landholders, in this case, like all landholders who are compensated under the petroleum legislation do not dispose of or exchange anything because the nature of the conduct and compensation agreement is that they have no rights other than the right to receive appropriate compensation for the compensatable effects under the petroleum legislation.

It is evident that the actual length of the agreements is in some respects uncertain as it will depend on the period of time that B carry on activities on the land. Accordingly, the actual quantum of compensation received over the life of the agreements will be dependent on the duration of the activities. In this context, it is worth recognising that the prospective compensation amounts shown in the CCA are merely a forecast of the absolute maximum that could be received under the agreements and receipts will only be received under the CCA.

In the context of classifying regular payments in a mining environment it is worthwhile reviewing the decision in Cape Flattery Silica Mines Pty Limited v FC of T 97 ATC 4552 (Cape Flattery case) where the issue of characterisation of payments as capital or income was undertaken to determine if the payments were deductible. The taxpayer in the Cape Flattery Case carried on a business of mining silica sands at Cape Flattery in North Queensland. The taxpayer initially held four mining leases for mineral sands, each of which covered land within the Hope Vale Aboriginal Reserve at Cape Flattery. Under these leases, the taxpayer was required to pay 3% of its annual net profit each year to the Department of Community Services for the benefit of the Aboriginals living at the Hope Vale Reserve. In 1990, the taxpayer applied for the grant of a new lease and also sought to renew an existing lease.

The Hope Vale Aboriginal Council (HVAC), an incorporated body that represented the Aboriginals at Hope Vale Reserve, initially opposed the taxpayer's applications. However, following litigation between the taxpayer and HVAC, deeds were entered into between the parties which, among other things, provided that:

(i) HVAC would consent to the grant of the new lease and cease its court proceedings challenging the renewal of a lease;

(ii) the taxpayer would surrender a lease and withdraw an application for the renewal of another;

(iii) the taxpayer would continue to pay 3% of its annual pre-tax profit under two leases to the Department of Community Services; and

(iv) the taxpayer would pay to HVAC a total of 3% of its gross sales proceeds attributable to three continuing leases. In the Cape Flattery Case the sand was owned by the Crown; and the land, apart from the sand, was owned by HVAC and to undertake the sand mining activity the taxpayer required access to all of the land.

The first point of distinction between the Cape Flattery case and the landholder in this private ruling request is the fact that the Cape Flattery case applied the general deduction provisions in subsection 51(1) of the ITAA 1936 whereas this private ruling request is reviewing the compensation from the perspective of the recipient to determine whether an amount it is of a capital or income in nature. It is acknowledged that the satisfaction of subsection 51(1) of the ITAA 1936 depends on the payment of regular amounts that do not give rise to an enduring benefit for the taxpayer incurring the expenses and as stated in the Cape Flattery case at paragraph 4561 and 4562:

The principles underlying s 51(1) have been the subject of much exposition. It is sufficient for present purposes to refer first to the observations of Dixon J (as he then was) in Hallstroms Pty Ltd v FC of T (1946) 8 ATD 190; (1946)72 CLR 634, where his Honour at ATD 194; CLR 647referred to:

"... the general consideration that the contrast between the two forms of expenditure [ie., on capital account and on revenue account] corresponds to the distinction between the acquisition of the means of production and the use of them; between establishing or extending a business organization and carrying on the business; between the implements employed in work and the regular performance of the work in which they are employed; between an enterprise itself and the sustained effort of those engaged in it."

Earlier, in Associated Newspapers Ltd v FC of T (1938) 5 ATD 87; (1938) 61 CLR 337, Dixon J said at ATD 93-94; CLR 359:

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

His Honour continued at ATD 95; CLR 361:

"In the attempt, by no means successful, to find some test or standard by the application of which expenditure or outgoings may be referred to capital account or to revenue account the Courts have relied to some extent upon the difference between an outlay which is recurrent, repeated or continual and that which is final or made 'once for all', and to a still greater extent upon a distinction to be discovered in the nature of the asset or advantage obtained by the outlay. If what is commonly understood as a fixed capital asset is acquired the question answers itself."

His Honour at ATD 96; CLR 363 made the statement so often later cited:

"There are, I think, three matters to be considered, (a) the character of the advantage sought, and in this its lasting qualities may play a part, (b) 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 (c) 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."

It is evident from the above extracts that an expense may be of a revenue nature if it relates to the working capital used in the business rather than the acquisition of a business structure or part of a business structure.

Land in the hands of the landholder, in this private ruling request, is a capital asset that is not held for the purpose of sale and so is not a revenue asset (not trading stock, while the silica sand mined by Cape Flattery was trading stock). The land is classified by the landholder as their income earning structure which when acquired did not give rise to a deduction for its cost but an inclusion of the related costs in the cost base of the land. In other words, amounts received to compensate the landholders for the permanent damage done to their capital asset (income earning structure) should be considered to be on capital account and result in a reduction in the cost base of the land. The receipt of compensation in the context of this private ruling request could never be considered to be part of the ordinary operations of the landholder in using their asset to generate assessable income.

The second point of distinction between the Cape Flattery case is that the agreement in that case related to a vast acreage or expanse of land whereas the CCA and BCCA apply to a defined area of land that is permanently damaged. The court in Cape Flattery noted that there was no permanent damage to the subject land whereas there is clear evidence of significant permanent damage and reduction in productive capacity and value in the land owned by you (the landholder). Another difference is the fact that the compensation is calculated with reference to a percentage of profit whereas the compensation in the CCA and BCCA is calculated with reference to the permanent damage and diminution in the value of the land caused by the CSG activities on the land. In Cape Flattery the taxpayer took possession of the whole surface of the land and so a characterisation of rental was sustained (for deductibility purposes) whereas the CCA and BCCA focuses on direct damage to land and associated business assets.

Further discussion of this issue can be identified in the case of Nullaga Pastoral Co Pty Ltd v Federal Commissioner of Taxation 78 ATC 4329, where the taxpayer owned a farming property which two other companies, as joint venturers, wished to explore for bauxite. The proposed activities of the joint venturers would considerably interfere with farm planning, operation and development. The parties negotiated an agreement whereby the joint venturers were granted exploration rights for five years and, as consideration for those rights, the taxpayer was to receive $10,000 annually. Wickham J said that the agreement had hardly any of the characteristics of a lease and that in his opinion the amounts were paid and received as consideration for the deprivation of part of the capital asset and in order to replace that capital.

Again, in the case of Barrett v Federal Commissioner of Taxation (1968) 118 CLR 666; (1968) 15 ATD 149; (1968) 10 AITR 685 (Barrett's case) a licence to win minerals was granted to a third party on land owned by the taxpayer. The taxpayer and the third party executed a deed which detailed the amounts the taxpayer was to receive on account of damage to and diminution in the value of the land and other loss and inconvenience associated with the operations and activities of the third party. As it was difficult to ascertain the extent of the damage and diminution at the time the deed was entered into, the amounts to be paid were genuine pre-estimates.

The taxpayer, in Barrett's case, did not include these amounts in his assessable income. The taxpayer contended that the amounts were capital in nature as they were made to compensate him for any damage to his land or diminution in the value of his land that might and probably would result from the mining operations. The Commissioner included these amounts in assessable income on the basis they were made either in respect of a licence granted to the third party to enter the taxpayer's property and conduct mining operations or because they were royalties.

The High Court held that the payments were not royalties as the minerals were the property of the third party. The High Court further held that the payments were not made in return for the grant of a licence to use the taxpayer's land as the reservation of minerals gave the right to take the minerals from the land and do all things necessary for that purpose. The payments were made and received for the purpose of making good the estimated diminution in the value of the land and the amount of damage which might result from the carrying on of mining operations as detailed in the deed. Therefore, the payments were not assessable to the taxpayer.

A direct correlation between the nature of the compensation payments received in Barrett's case and this case can be seen in that payments under the CCA and BCCA are to make good the estimated diminution in value as agricultural land from the activities on the land.

For an amount to be income it has to be considered from the perspective of the recipient and in this case the characterisation that was agreed to by the landholder in the CCA and BCCA was to compensate them for the permanent damage to and diminution in the value to the land. The fact that some of the compensation payments are to be received annually rather than by means of a single lump sum does not disturb the capital nature of the receipts because once the character of the payments is established the manner in which the payment is received does not (and should not) change the fundamental nature of the receipt. This was contemplated in Whitaker v FC of T 98 ATC 4285 where receipt for damage was considered to be capital.

In summary, there is insufficient support for a finding that any of the amounts received under the CCA and BCCA is in the nature of income and so it is concluded that all amounts received under the CCA and BCCA are capital in nature. Having concluded that the amounts are capital in nature and have been calculated with reference to the permanent damage and diminution in value of the underlying asset it is appropriate that a consideration of Taxation Ruling TR 95/35 is undertaken.

Paragraph 3 of Taxation Ruling TR 95/35 takes a look-through approach where it seeks to connect the relevant compensation to the most relevant impacted asset and the ruling provides the following explanation of the look-through approach:

The look-through approach is the process of identifying the most relevant asset. It requires an analysis of all of the possible assets of the taxpayer in order to determine the asset to which the compensation amount is most directly related. It is also referred to in this Ruling as the underlying asset approach.

The ruling clarifies the concept of underlying asset as:

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 underlying 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.

In determining which the most relevant underlying asset is, Taxation Ruling TR 95/35 at paragraph 70 provides:

...it is often appropriate to adopt a "look-though" approach to the transaction or arrangement which generates the compensation receipt. We regard this concept as the most appropriate basis on which to determine whether any capital gain arises on the disposal of any asset of the taxpayer.

The taxpayer must, as specified in paragraph 82 of Taxation Ruling TR 95/35, be able to 'show that the compensation receipt has a direct and substantial link with the underlying asset'. The right to seek compensation in the context of activity on land is modified by the requirements of the Petroleum and Gas (Production and Safety) Act 2004 (Qld) (Petroleum legislation). The compensation has been based on the concept of compensatable effect which is defined in the Petroleum legislation.

The focus of the legislation is to compensate the landholder for activities which are carried out by the authority holder, that is B in the current circumstances and cause damage to the landholder's land and potentially any business carried on, on that land. In particular, the compensation relates to:

(a) the deprivation of possession of the land's surface and of course if possession of the productive surface of the land is denied then no productive use could be made of the land by the landholders and the value of the land for agricultural purposes will be reduced to zero;

(b) the diminution in the value of the land and in this context it is expected that this would include the diminution in the ability of the land in its capacity as agricultural land to produce crops or livestock as a result of CSG activity on the land;

(c) even if the possession of the surface of the land is not denied there can be diminution in the use that can be made of the land in the short or long term due to the degradation of the soil resulting from the various activities carried out in the course of developing the gas fields and related infrastructure;

(d) the severance of parts of the land from other parts of the landholder's property and in this respect it would cover situations where parts of the overall property are stranded (for example, separated by roads, etc) and rendered unproductive due to isolation from the rest of the property and the physical impacts on the land; and

(e) any other cost, damage or loss that is likely to arise as a result of carrying out activities on the land and in this context there may be permanent damage or loss to the productive capacity of the land because there may be restrictions on the crop and livestock enterprise options that can be carried on the land due to the presence of the CSG activity on the property.

The intention of the parties in entering into the CCA and BCCA as set out in the objectives is to 'ensure that landholder is properly compensated as required under the Petroleum Legislation'.

The compensatable effects under the Petroleum legislation focus on the permanent damage to and loss of market value of the 'eligible claimant's land'. The loss does not extend to matters such as the mere temporary loss of income but to the permanent damage to the land. Any loss of income if it were to occur from events such as damage to a growing crop would be separately accounted for as 'compensation for loss of crop' payable to the landholder or to the tenant/occupier.

Fundamental to the operation of Taxation Ruling TR 95/35 is that the damage caused should be permanent and the ruling explains the concept of 'permanent damage' as follows:

Permanent damage or reduction in value does not mean everlasting damage or reduced value, but refers to damage or a reduction in value which will have permanent effect unless some action is taken by the taxpayer to put it right.

It is recognised that at some distant point in the future that rehabilitation of the land may occur but given the quantum of gas resource that is under the subject land rehabilitation is a remote event. The definition of permanent damage in Taxation Ruling TR 95/35 recognises that rehabilitation may occur and so the presence of permanent damage is not inconsistent with the expectation that some action may be taken or could be taken in the future to reduce the damage. In other words, the expected rehabilitation of the land in the future does not disturb the fact that there is permanent damage and diminution in the value of the land today.

It is noted, that while B has responsibility under the CCA's to perform rehabilitation work it is likely that at least some of the permanent diminution in the productive capacity of the land may not be able to be reversed.

Furthermore, the definition of permanent damage in Taxation Ruling TR 95/35 focuses on permanent damage and reduction in value and in the context of the land impacted by the activity agricultural land will be permanently damaged if it cannot be used as agricultural land or if it can be used as agricultural land there is a permanent reduction in the ability of the land to produce crops of a particular quality and yield or sustain livestock at the same carrying capacity (stocking rate) and nourish them adequately. This will result in the permanent reduction in the value of the land for agricultural purposes. There is a very close alignment between the concept of permanent damage in the context of Taxation Ruling TR 95/35 and the compensatable effects in the Petroleum legislation.

In summary, to be able to demonstrate that a particular amount of compensation relates to permanent damage to an underlying asset it is necessary to identify a particular amount or be able to reasonably estimate an amount that has been allocated to a particular underlying asset that has been permanently damaged. It is submitted that the payments for activities under the CCA and the BCCA are clearly identified and relate wholly to the permanent damage to the land and/or diminution in value of the land and do not represent any amount in the nature of income to the landholder. The table in Schedule 2 - Activities in the agreement has a full breakdown of the related impacts on the land.

In your circumstances, the amounts received from activities covered by the CCA and BCCA do not have the character of ordinary income in the hands of the landholder and are more correctly classified as capital receipts. In accordance with the look through approach in Taxation Ruling TR 95/35 it is evident that the most relevant asset to which the compensation relates in this instance is the underlying asset that is, the land. It is the land which suffers permanent damage or has been permanently reduced in value as a result of the activities undertaken. In accordance with subsection 110-40(3) of the ITAA 1997 as supported by Taxation Ruling TR 95/35, the compensation payments made in relation to such activities are not assessable capital gains but reduce the cost base of the underlying land.

In this respect the compensation received should be applied to reduce the cost base of both properties and improvements on those properties. The amounts should not be included in the assessable income of the landholder.

Question 4

Summary

You are not making a taxable supply by entering into the CCA and BCCA. GST is not payable on the compensation amounts received under the CCA and BCCA.

Detailed reasoning

Section 9-40 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 into the CCA and BCCA within the meaning of the GST Act we need to examine whether any activities of yours or obligations you enter into can be characterised as a supply.

Subsection 9-10(1) provides that a supply is any form of supply whatsoever. In particular 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.

Goods and Services Tax Ruling GSTR 2006/9 Goods and services tax: supplies (GSTR 2006/9) examines 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.

In your case, the CCA and BCCA are conduct and compensation agreements under the MERCP Act. These are designed principally to facilitate the agreement of compensation payable to landowners for authorised activities done pursuant to a resource authority.

While there is provision in the CCA and BCCA for access to land arrangements and consent to the activities, withholding consent or agreement to land access and the activities does not prevent B from exercising and enforcing its statutory rights to conduct the activities on your property authorised under the Petroleum Authority. A conduct and compensation agreement sets the parameters for access to land and conducting authorised activities; it is not the source of the authority to access land and conduct authorised activities. That authority comes from the resource authority, issued under statute.

The provision of access to the land is not within your control and not something you are able to supply. Therefore, when you entered into the CCA and BCCA you did not supply anything to B, nor did you enter into an obligation to tolerate an act or situation that was not already authorised by statute. Rather, you agreed to the compensation that is to be paid for the damage that will be done to your property and interference to your quiet enjoyment and use of those properties by the authorised activities.

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.

Paragraph 71 to 73 of Goods and Services Tax Ruling GSTR 2001/4Goods and services tax: GST consequences ofcourt orders and out-of-court settlements discusses where the subject of a claim is not a supply:

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.

In your case, for the reasons described above, the CCA and BCCA only amount to you agreeing to the amount of compensation payable to you for B exercising its statutory rights to conduct the authorised activities under the Petroleum Authority. Your agreement to the compensation and consent to the arrangements for conducting the authorised activities and land access does not alter the fact that the right to undertake the authorised activities on your property comes from the Petroleum Authority, not the CCA and BCCA. Mere agreement to receive compensation is not a supply within the meaning of section 9-10.

As the compensation payments are not consideration for a supply, you are not making a taxable supply under section 9-5.

Therefore, the receipt of the compensation amounts from B will not give rise to a GST liability pursuant to section 9-40.