Edited version of private ruling

Issue 1

Question 1

Is the taxpayer entitled to a deduction as repairs for all work undertaken on their rental property?

Advice/Answers

No.

Question 2

Is the taxpayer entitled to a deduction for repairs in the year they were incurred for:

treatment of

§ white ants

§ garage repairs

§ internal wall

§ roof repairs

§ painting

§ ceiling repairs

§ general repairs

Advice/Answers

Yes.

Question 3

Is the taxpayer entitled to a deduction for capital works expenses incurred for:

§ underpinning foundations

§ reconstruction of cracked patio slab

§ reconstruction of external wall

§ replacement of electrical wiring, light fittings

§ replacement of tiled floor to kitchen

§ replacement of tiled floor in the dining room

§ replacement of tiled floor in bathroom

§ replacement of tiling where concrete floor cracked and moved

§ replacement of kitchen cupboards

§ replacement of shower screen

§ replacement of toilet cistern

§ reconstruction of cupboard in family area

§ replacement of stormwater drains

§ replacement of locks and or repairs to locks

§ replacement of clothes line

§ replacement of letterbox

§ repair to white ant damaged timbers

§ converting a window into a doorway where no doorway previously existed

Answer

Yes.

Question 4

Is the taxpayer entitled to a decline in value for expenses incurred for:

§ replacement Carpet

§ replacement Curtains

§ bathroom accessories such as toilet roll holders, and soap dishes

Answer:

Yes.

Question 5

Is the Taxpayer entitled to a deduction for advertising and cleaning in the year they were incurred?

Answer:

Yes.

This ruling applies for the following periods:

1 July 2006 to 30 June 2007

1 July 2007 to 30 June 2008

1 July 2008 to 30 June 2009

The scheme commenced on

1 January 2007

Relevant facts

The taxpayer is the owner of a residential rental property which has been tenanted since the taxpayer purchased the property.

The tenants were asked to vacate the property following determination by a registered builder that it was unsafe.

Work undertaken (detailed below) was carried out on the property over a period of time.

Foundation repairs:

§ expose footings where required, drill and concrete bored piers to support jacking and levelling, jack footings to level the house and close gaps in external walls, support the levelled floor and footings, and reinstate the adjoining soil, and re-establish the lawn for approximately 20% of the perimeter of the house.

Patio repairs:

§ removal and reconstruction of cracked and unsafe front patio slab.

Kitchen repairs:

§ removal and replacement of tiled floor to kitchen with like tiles; and

§ replacement of water damaged and generally damaged kitchen cupboards.

Family/Dining repairs:

§ removal and replacement of tiled floor with like tiles to family and dining area.

Termites and framing repairs:

§ repair of white ant damaged timbers, and treatment of white ants; and

§ remove and replace leaking stormwater pipes

Bathroom/Toilet repairs:

§ removal and replacement of tiled floor to bathroom and toilet with like tiles;

§ Install replacement shower screen to same design

§ replace burnt, chipped and yellowed toilet cistern and pan in existing location:

§ repair water leaks to bath and shower, repair of damaged wall near bath and shower, reseal the wall, and reconstruct cupboard in family area

§ reinstall existing bath and shower tray.

General repairs:

§ barricade areas required to be made safe for WHS and to prevent unauthorised access to work areas;

§ removal but no replacement of unsafe pergola structure installed by tenants without authority to rear of house;

§ removal but no replacement of bbq installed by tenants without authority;

§ repair to paving, garden edges, and fencing

§ repair to moisture damaged plaster ceiling;

Painting:

§ paint internal and external previously painted surfaces;

Electrical Repairs:

§ repair cabling stretched by front wall movement;

§ disconnect and reconnect electrical mains;

§ remove and replace light fittings as required;

§ make safe circuits in damaged walls and reconnect;

Garage repairs and Letterbox:

§ refix corner of wall to garage where affected by vehicle impact, realign door, and replace letterbox;

Ceiling repairs:

§ replace some plaster sheeting in any required areas, rejoint cracked areas apply binding coat to prevent ceiling paint peeling;

Stormwater repairs:

§ dig up remove and dump cracked or damaged stormwater drains and replace to the extent required;

External wall and soffit repairs:

§ remove all unsafe brickwork, and dump, propping to make safe whilst undertaking work;

§ supply and lay bricks to affected areas, and resheet EC wall area where damaged with linear board, and resheet damaged soffits;

Lighting repairs:

§ replace worn, corroded or damaged light fittings and switches;

Clothes line:

§ replace outdoor clothes line

Internal wall repairs:

§ partial replastering of the internal walls and repairs to cracked areas in kitchen lounge and family area only;

Roof repairs:

§ check all flashings and check tiles for cracks replacing tiles and repoint capping as required;

Lock repairs:

§ repair and or replacement of locks to the house and separate rear garage, and minor repairs to the garage;

Carpet and soft furnishing replacements, these items are depreciable, and have been capitalised;

Tiles and tiling:

§ remove tiled floors where concrete floor cracked and moved, grind floor and supply and lay tiles;

Cleaning of site:

§ remove all tenant and builders rubbish from site, dead trees, prune trees where required, remove bricks from lawn, cut grass as required.

The work was carried out by a company or subcontractors employed by that company.

The property was re rented when the work was completed.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 25-10

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Section 42-15

Income Tax Assessment Act 1997 Division 43

Income Tax Assessment Act 1936 Division 10C

Income Tax Assessment Act 1936 Division 10D

Income Tax Assessment Act 1997 Division 46-10

Income Tax Assessment Act 1997 Section 40-25

Income Tax Assessment Act 1997 Subsection 40-30(1)

Income Tax Assessment Act 1997 Subsection 40-45(2)

Income Tax Assessment Act 1997 Division 40

Reasons for decision

In summary

The taxpayer is not entitled to a full deduction for repairs for the work completed on her rental property. Work such as the repainting of walls, repairs to the garage, and ceiling restore the efficiency of function of the items and does not provide any substantial improvement or change in character of the items. Therefore are considered repairs and able to be claimed in the year of income that they were incurred. Likewise expenses incurred for cleaning, general maintenance and advertising can be claimed in the year they were incurred.

However, the replacement of footings, floor tiles, kitchen cupboards, shower screen, toilet cistern and other such expenses/activities are considered capital expenditure and the taxpayer is entitled to a deduction for capital works instead. Similarly the taxpayer is not entitled to a deduction for the purchase of such items as curtains or carpets as they are depreciating assets for which the taxpayer can claim a deduction for the decline in value.

Detailed explanation

Issue 1

Question 1

Is the taxpayer entitled to a deduction as repairs for all work undertaken on their rental property?

Section 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for the cost of repairs to premises used for income producing purposes. However, subsection 25-10(3) of the ITAA 1997 does not allow a deduction for repairs where the expenditure is of a capital nature.

Expenditure will be on capital account if it is for alterations that go beyond fixing damage accumulated during a taxpayer's use of an asset in producing income (BP Oil Refinery (Bulwer Island) Ltd v. FC of T 92 ATC 4031; (1992) 23 ATR 65). Alterations may restore the function of an item and be on revenue accounts, but alterations that change the character of the item will be on capital accounts and not deductible.

The word 'repair' is not defined within the tax legislation. In its context within section 25-10 of the ITAA 1997 it is the restoration of efficiency in function without altering the character rather than exact repetition of form or material that is significant.

The key factor in determining a repair is that the character of a thing can not be changed as a result of the repair. As reported in W Thomas & Co v. FC of T (1965) 115 CLR 58; (1965) 14 ATD 78;(1965) 9 AITR 710, 'repair' involves a restoration of a thing to a condition it formerly had without changing its character.

The Commissioners view on deductions for repairs is contained in Taxation Ruling TR 97/23 Income Tax: deductions for repairs. In the context of section 25-10, the word 'repairs' bears it ordinary meaning.

According to The Shorter Oxford English Dictionary , 'repair' means:

Restoration of some material thing or structure by the renewal of decayed or worn out parts, by refixing what has become loose or detached; the result of this.

Whilst Osborn's Concise Law Dictionary , 8th ed, defines 'repair' as:

The making good of defects in a property which has deteriorated from its original state. The work required may involve curing defects arising from the defective design or construction of the building, but it must fall short of effectively reconstructing the premises or improving them.

Many judicial decisions make it plain that 'repair' involves the making good of defects, damage or deterioration including the renewal of parts and that the word does not imply a total reconstruction: see Stroud's Judicial Dictionary . In BP Oil Refinery (Bulwer Island) Ltd v. FC of T 92 ATC 4031 at 4039; (1992) 23 ATR 65 at 73, the Federal Court of Australia (Jenkinson J) expressed the opinion that 'work will not be considered repair unless it includes some restoration of something lost or damaged, whether function or substance or some other quality or characteristic'.

Repair, as the word is commonly understood, does not depend on whether much is done or only a little. Lord Macnaghten said in the House of Lords decision in Hoddinott v. Newton, Chambers & Co Ltd [1901] AC 49 at 54:

A man does not usually wait to repair his house until it is altogether ruinous and on the point of falling to pieces.

It ordinarily means the remedying or making good of defects in, damage to, or deterioration of, property to be repaired (being defects, damage or deterioration in a mechanical and physical sense) and contemplates the continued existence of the property.

Repair for the most part is occasional and partial. It involves restoration of the efficiency of function of the property being repaired without changing its character and may include restoration to its former appearance, form, state or condition. A repair merely replaces a part of something or corrects something that is already there and has become worn out or dilapidated. Works can fairly be described as 'repairs' if they are done to make good damage or deterioration that has occurred by ordinary wear and tear, by accidental or deliberate damage or by the operation of natural causes (whether expected or unexpected) during the passage of time.

To repair property improves to some extent the condition it was in immediately before repair. A minor and incidental degree of improvement, addition or alteration may be done to property and still be a repair. If the work amounts to a substantial improvement, addition or alteration, it is not a repair and is not deductible under section 25-10 of the ITAA 1997.

What is considered a 'repair' for the purposes of section 25-10 is a question of fact and degree in each case having regard to the form, state and condition of the particular property and its functional efficiency when the expenditure is incurred (per Buckley LJ in Lurcott v. Wakely & Wheeler [1911] 1 KB 905 at 924) and to the nature and extent of the work done. 'Repair' may involve renewal or replacement of subsidiary parts to some degree and may involve improvement but only to a minor and incidental extent.

If work done to property goes beyond what is a 'repair' in terms of section 25-10 of the ITAA 1997, any expenditure for the work is not deductible. The work may go beyond 'repairs' in terms of the section if it:

(a)  changes the character of the property; or

(b) does more than restore its efficiency of function.

Repair is distinct from improvement

In the case of a 'repair', broadly speaking, the work restores the efficiency of function of the property without changing its character. An 'improvement', on the other hand, provides a greater efficiency of function in the property - usually in some existing function. It involves bringing a thing or structure into a more valuable or desirable form, state or condition than a mere repair would do. Some factors that point to work done to property being an improvement include whether the work will extend the property's income producing ability, significantly enhance its saleability or market value or extend the property's expected life.

To distinguish between a 'repair' and an 'improvement' to property, one needs to consider the effect that the work done on the property has on its efficiency of function. This is the determinative test.

If the work entails the replacement or restoration of some defective, damaged or deteriorated part of the property, one does not focus on the effect the work has on the efficiency of function of the part. That is not determinative of whether the property is repaired or improved. It is a relevant factor to take into account, however, in considering the effect of the work on the property's efficiency of function. It is possible, for instance, that the replacement of a subsidiary part of property with a part better in some ways than the original is a repair to the property without the work being an improvement to the property.

Replacement or substantial reconstruction of the entirety, as distinct from the subsidiary parts of the whole, is an improvement.

Restoration of efficiency of function of the property

The High Court of Australia (Windeyer J) said in W Thomas & Co Pty Ltd v. FC of T (1965) 115 CLR 58 at 72; (1965) 14 ATD 78 at 87:

The words "repair" and "improvement" may for some purposes connote contrasting concepts; but obviously repairing a thing improves the condition it was in immediately before repair. It may sometimes be convenient for some purposes to contrast a "repair" with a "replacement" or a "renewal". But repairs to a whole are often made by the replacement of worn-out parts by new parts. Repair involves a restoration of a thing to a condition it formerly had without changing its character. But in the case of a thing considered from the point of view of its use as distinct from its appearance, it is restoration of efficiency of function rather than exact repetition of form or material that is significant. Whether or not work done upon a thing is aptly described as a repair of that thing is thus a question of fact and degree. (emphasis added)

It is therefore more significant in applying the word 'repairs' in its context in section 25-10 of the ITAA 1997, to consider whether the work restores the efficiency of function of the property for income purposes (without changing its character) than it is to consider whether the appearance, form, state or condition of the property is exactly restored.

Use of different materials

If expenditure is incurred in replacing or renewing a part of property with a material of a different type from the original, the work done may either repair the property, or be an improvement to it. The use of different materials is not in itself determinative of the issue.

Whether the use of a more modern material to replace the original material qualifies as a repair is a question determined on the facts of each case. It is restoration of a thing's efficiency of function (without changing its character) rather than exact repetition of form or material that is significant.

If the work done restores a previous function to the property, or restores the efficiency of the previous function, it does not matter that a different material is used. Even if the work done using different material enables the property to perform its function marginally more efficiently, the work may still constitute a deductible repair. However, the greater the work enhances the efficient functioning of the property the more likely it is that the work constitutes an improvement.

The test is whether there is a sufficient degree of improvement to justify characterising the expenditure as capital and therefore excluding it from deductibility under section 25-10 of the ITAA 1997.

If the work produces a new and different function, or an additional function, it is likely to constitute a capital improvement.

In what situations is repair expenditure of a capital nature?

Expenditure incurred for repairs is not deductible under section 25-10 of the ITAA 1997 if the expenditure is of a capital nature. Subsection 25-10(3) precludes a deduction for capital expenditure.

Expenditure for repairs to property is capital expenditure if any of the following subparagraphs applies:

(a)  The guidelines for distinguishing between capital and revenue outgoings laid down by the courts for the purposes of the forerunners of section 8-1 in such cases as Sun Newspapers Ltd v. FC of T (1938) 61 CLR 337; (1938) 5 ATD 87 and Hallstroms Pty Ltd v. FC of T (1946) 72 CLR 634; (1946) 8 ATD 190 indicate that the expenditure is incurred in establishing, replacing or enlarging the profit- yielding (i.e., business) structure rather being a working or operating expense.

(b)  The expenditure, rather than being for work done to restore the property by renewal or replacement of subsidiary parts of a whole, is for work that is a renewal in the sense of a reconstruction of the entirety. The application of this distinction depends very much on what, in the circumstances of the case, is properly considered to be the relevant entirety.

(c)  …

Renewal, replacement or reconstruction of the entirety (that is, the whole or substantially the whole) of a thing or structure is an improvement rather than a deductible repair.

What is an entirety?

The tests used by the courts and tribunals or suggested by commentators to identify an entirety - as distinct from a subsidiary part - include one or more of the following:

§ is the property (for example a chimney) physically, commercially and functionally an inseparable part of an entirety (for example a factory)?: Samuel Jones & Co (Devondale) Ltd v. Commissioners of Inland Revenue (1951) 32 TC 513.

§ is the property (for example a slipway) separately identifiable as a principal item of capital equipment?: Lindsay's case.

§ is the thing or structure (for example a timber staircase) an integral part, but only a part, of the entire premises and is it capable of providing a useful function without regard to any other part of the premises?: Case W68 89 ATC 613; AAT Case 5232 (1989) 20 ATR 3796.

§ is the thing or structure (for example meters and pumping plant) a separate and distinct item of plant in itself from the thing or structure for example a light and power station) to which it supplied something (for example electric light and power) or an integral part of some larger item of plant?: Case 36 (1949) 15 TBRD (OS) 287.

§ is the property a 'unit of property' as that expression is used in the depreciation provisions of the income tax law, bearing in mind that, to be such a 'unit', the thing or structure must be 'functionally separate and independent'?: Ready Mixed Concrete (Victoria) Pty Ltd v. FC of T (1969) 118 CLR 177; (1969) 15 ATD 215.

The leading Australian case in this area is the High Court decision in the Lindsay case where slip proprietors and ship repairers reconstructed one of two slipways. The taxpayers submitted that the relevant entirety was the whole of the business premises on which the slipway existed or, alternatively, the whole of the slip (comprising the slipway, the hauling machinery that served it, the cradle on it and the dolphins and warping winches by which vessels were manoeuvred on to it). Kitto J rejected a submission that the slipway was only a subsidiary part of some larger thing or aggregation of things. His Honour held that the expenditure involved was not deductible under section 53 of the Income Tax Assessment Act 1936 (ITAA 1936) because the slipway ought to be considered as an entirety by itself (at 106 CLR 385; 12 ATD 201):

It is separately identifiable as a principal, and indeed the principal, item of capital equipment, so that in a discussion as to whether work done in relation to it constitutes a repair or a renewal in the opposed senses abovementioned, the subject matter in relation to which the choice of description is to be made is the slipway itself, and not any larger thing or aggregation of things of which it may be suggested to form part.

In the W Thomas & Co case , where the High Court considered deductions claimed for repairs to guttering, the roof, walls and two floors of a building, the view was taken that the whole building was the entirety. Windeyer J said (at 115 CLR 66; 14 ATD 83) that the relevant question is not:

... whether the roof or the floor or some other part of the building, looked at by itself, was repaired as distinct from being reconstructed or replaced. It is whether what was done to the roof or the floor or some other part was a repair of the building.

In other examples, the floor of a house (Lister v. Lane & Nesham [1893] 2 QB 212) and the front external wall of a house (the Lurcott case) have each been held to be a subsidiary part of the whole.

Expenses incurred by the taxpayer in replacement of an entire structure or unit of property (such as a complete fence or building, a stove, kitchen cupboards or refrigerator) are capital, or of a capital nature, and the taxpayer may be able to claim capital works deductions for these expenses.

Division 43 of the ITAA 1997 provides a deduction for capital works. Capital works includes buildings and structural improvements, and also extensions, alterations or improvements to buildings and structural improvements where a residential property is used for income producing purposes.

As advised in the Guide for rental property owners: Rental Properties 2010, the taxpayer cannot claim a deduction for a depreciating asset's decline in value if they are allowed a capital works deduction for the asset.

If the taxpayer's depreciating asset is not plant and it is fixed to, or otherwise part of, a building or structural improvement, any expenditure will generally be construction expenditure for capital works and only a capital works deduction may be available.

Residential rental properties used for income-producing activities do not fall within the ordinary meaning of plant. Items that form part of premises are also part of the setting of the landlord's rental income earning activities and therefore not eligible for deductions for their decline in value.

§ when determining whether an item is part of the premises or setting:

§ whether the item appears visually to retain a separate identity

§ the degree of permanence with which it is attached to the premises

§ the incompleteness of the structure without it

§ the extent to which it was intended to be permanent or whether it was likely to be replaced within a relatively short period.

None of these factors alone is determinative and they must all be considered together.

For example wall and floor tiles are generally fixed to the premises, not freestanding, and intended to remain in place for a substantial period of time. They will generally form part of the premises. Expenditure on these items falls under capital works.

On the other hand, a freestanding item such as a bookcase may be attached to the structure only for temporary stability. It therefore does not form part of the premises and may qualify for a deduction for decline in value.

Kitchens are fixed to the premises, are intended to remain in place indefinitely and are necessary to complete the premises. Any separate visual identity they have is outweighed by the other factors. They are therefore part of the premises. Clotheslines are also part of the premises for similar reasons.

Conclusion

The taxpayer's rental property was determined to be unsafe by a registered builder and the tenants were asked tot vacate as the property was unsafe. After the tenants vacated the taxpayer completed extensive work on the property. This work included work that was capital in nature as it altered the character of the property therefore the taxpayer is not entitled to a deduction as repairs for all work undertaken on their rental property.

Question 2

Is the taxpayer entitled to a deduction for repairs in the year they were incurred for:

§ treatment of white ants

§ garage repairs

§ internal wall

§ roof repairs

§ painting

§ ceiling repairs

§ general repairs

Section 25-10 of the ITAA 1997 allows a deduction for the cost of repairs to premises used for income producing purposes. However, subsection 25-10(3) of the ITAA 1997 precludes a deduction for repairs where the expenditure is of a capital nature.

Expenses incurred by the taxpayer in replacement of an entire structure or unit of property (such as a complete fence or building, a stove, kitchen cupboards or refrigerator) are capital, or of a capital nature.

The property was vacated by the tenants after a registered builder determined it was unsafe. The taxpayer has incurred expenditure in relation to numerous works conducted on the property including:

§ treatment of white ants

§ garage repairs

§ internal wall

§ roof repairs

§ painting

§ ceiling repairs

§ general repairs including the removal of the unapproved patio

These works were not replacements of entireties, extensions or improvements, but rather restored the efficiency of function to these items.

In conclusion

The works listed above restored the efficiency of function to the items and were not replacements of entireties, extensions or improvements, therefore the taxpayer is entitled to a deduction in the year of income is allowed for the expenses listed above.

Question 3

Is the taxpayer entitled to a deduction for capital works expenses incurred for:

§ underpinning foundations

§ reconstruction of cracked patio slab

§ reconstruction of external wall

§ replacement of electrical wiring, light fittings

§ replacement of tiled floor to kitchen

§ replacement of tiled floor in the dining room

§ replacement of tiled floor in bathroom

§ replacement of tiling where concrete floor cracked and moved

§ replacement of kitchen cupboards

§ replacement of shower screen

§ replacement of toilet cistern

§ reconstruction of cupboard in family area

§ replacement of stormwater drains

§ replacement of locks and or repairs to locks

§ replacement of clothes line

§ replacement of letterbox

§ repair to white ant damaged timbers

§ converting a window into a doorway where no doorway previously existed

Section 25-10 of the ITAA 1997 allows a deduction for the cost of repairs to premises used for income producing purposes. However, subsection 25-10(3) of the ITAA 1997 precludes a deduction for repairs where the expenditure is of a capital nature.

Expenses incurred by the taxpayer in replacement of an entire structure or unit of property (such as a complete fence or building, a stove, kitchen cupboards or refrigerator) are capital, or of a capital nature, and the taxpayer may be able to claim capital works deductions for these expenses.

Division 43 of the ITAA 1997 provides a deduction for capital works. Capital works includes buildings and structural improvements, and also extensions, alterations or improvements to buildings and structural improvements where a residential property is used for income producing purposes.

The following expenses incurred by the taxpayer are listed in the Guide for rental property owners: Rental Properties 2010 as capital items of expenditure which fall under Division 43 of the ITAA 1997

§ cupboards other than freestanding

§ door locks

§ electrical assets such as power points, switchboards, switches and wiring floor coverings such as tiles

§ bathroom assets (including baths, tapware, vanity units and wash basins)

§ shower assets such as shower screens and trays

§ bathroom assets (including mirrors, rails soap holders and toilet roll holders)

§ toilets

§ water piping

§ kitchen fixtures (including bench tops, cupboards, sinks, tapware, and tiles)

§ clotheslines

§ letterboxes

Foundations are generally fixed to the premises, and are necessary as the rental property would be incomplete without them. The foundations are separately identifiable representing an entirety in itself and forms part of the setting of the landlord's rental income earning activities.

The taxpayer underpinned the foundations, inherently changing the nature and character of the income producing property (Case V2 88 ATC 107; AAT Case 4012 (1987) 19 ATR 3038 and BP Oil Refinery (Bulwer Island) Ltd v. FC of T 92 ATC 4031). The underpinning goes beyond restoring the property to its original state and alters the character of the property. Accordingly the expenditure for underpinning work is not a repair but is capital in nature and therefore is not deductible in the year of income.

A patio slab is generally fixed to the premises, and is necessary to complete the premises. The patio slab is separately identifiable representing an entirety in itself and forms part of the setting of the landlord's rental income earning activities. Expenditure on replacing the patio slab results in an improvement or a renewal or reconstruction of an entirety. The expenditure is not a repair but is capital in nature and not deductible in the year of the income.

The original brick support wall under the front balcony forms part of the premises and the property would be incomplete without it. The brick support wall is separately identifiable representing an entirety in itself and forms part of the setting of the landlord's rental income earning activities.

The original brick support wall under the front balcony failed and was replaced with short concrete columns. The action of replacing the solid brick support wall with short concrete columns modified the character of the income producing property (Case V2 88 ATC 107; AAT Case 4012 (1987) 19 ATR 3038 and BP Oil Refinery (Bulwer Island) Ltd v. FC of T 92 ATC 4031). Accordingly the expenditure for the work is not a repair but is capital in nature therefore is not deductible in the year of income.

The external brick wall forms a part of the premises and the property would be incomplete with out it. The brick wall is separately identifiable representing an entirety in itself and forms part of the setting of the landlord's rental income earning activities.

The taxpayer replaced part to the brick wall with cladding, inherently changing the nature and character of the income producing property (Case V2 88 ATC 107; AAT Case 4012 (1987) 19 ATR 3038 and BP Oil Refinery (Bulwer Island) Ltd v. FC of T 92 ATC 4031). By replacing the original brickwork with cladding the property has not been restored to the condition it had formerly been in. The original condition and character of the property has been changed. Accordingly the expenditure for replacement of brickwork with cladding is not a repair but is capital in nature and therefore is not deductible in the year of income.

By converting a window into a doorway the taxpayer has inherently changed the nature and character of the income producing property (Case V2 88 ATC 107; AAT Case 4012 (1987) 19 ATR 3038 and BP Oil Refinery (Bulwer Island) Ltd v. FC of T 92 ATC 4031). The taxpayer has improved the efficiency of the property by creating a doorway where a window previously existed. Furthermore converting a window into a doorway altered the structure and original character of the house. Accordingly the expenses incurred for the conversion of window to a doorway is not a repair but is capital in nature and therefore is not deductible in the year of income.

In conclusion

Although the foundation has not been replaced in its entirety, and the taxpayer may argue that not all the changes mentioned above are improvements, subsection 25-10(3) of the ITAA 1997 precludes a deduction for repairs where the expenditure is of a capital nature. Expenditure will be on capital account if it is for alterations that change the character of the item being repaired. All the replacements, refurbishments, reconstructions and/or modifications done by the taxpayer have altered the character of the property therefore are of a capital nature and not deductible in the year of income.

As detailed in the Guide for rental property owners: Rental properties 2010, items of capital expenditure fall under Division 43 of the ITAA1997. Deductions for capital works for the above mentioned expenses are allowable under section 43-10 of the ITAA 1997. The rate of deduction for capital works which began after 26 February 1992 for a residential rental property is 2.5%.

Question 4

Is the Taxpayer entitled to a deduction for a decline in value of:

§ replacement Carpet

§ replacement Curtains

§ bathroom accessories such as toilet roll holders, and soap dishes

Under section 40-25 of the ITAA 1997, a deduction for expenditure on depreciating assets may be allowed. The term 'depreciating asset' is defined in subsection 40-30(1) of the ITAA 1997 as an asset that has a limited effective life and can reasonably be expected to decline in value over the time it is used.

However, subsection 40-45(2) of the ITAA 1997 provides that Division 40 of the ITAA 1997 does not apply to capital works to the extent that an amount is or could have been deductible under Division 43 of the ITAA 1997.

Subsection 40-80(2) of the ITAA 1997 provides that the decline in value of a depreciating asset will be the cost of the asset if the cost of the asset does not exceed $300 and the asset is used predominately for the production of assessable income.

The following items which the taxpayer incurred expenditure on are listed in the Guide for rental property owners: Rental Properties 2010 as depreciable assets and are eligible for a deduction for decline in value under Division 40 of the ITAA 1997:

§ carpets

§ curtains

§ bathroom accessories such as toilet roll holders, and soap dishes

For more information on the effective life of depreciating assets application from

1 July 2008 please consult Taxation Ruling TR 2009/4.

In conclusion

The taxpayer incurred expenditure on carpets, curtains and bathroom accessories for which they may claim a deduction for the decline in value under section 40-25 of the ITAA 1997 as they are considered to be depreciating assets.

Question 5

Is the Taxpayer entitled to a deduction for advertising and cleaning in the year they were incurred?

Section 8-1 of the ITAA 1997 allows the taxpayer to claim a deduction for expenses you incur in gaining or producing your assessable income except where the expenses are of a capital, private or domestic nature.

The taxpayer incurred expenses for cleaning of the site including: the pruning of trees, mowing of lawns, removing all bricks, tenant and builders rubbish, from the site.

The taxpayer also incurred expenses for advertising the property for rent.

Expenses incurred in advertising the rental property are not expenses of a capital, private or domestic nature.

Guide for rental property owners: Rental properties 2010 advises that expenses incurred for cleaning and advertising of rental properties can be claimed as an immediate deduction in the income year in which they were incurred.

In conclusion

The taxpayer is entitled to an immediate deduction for expenses incurred on cleaning and advertising in the year of income that they were incurred.

Does Part IVA, or any other anti-avoidance provision, apply to this ruling?

Part IVA of the ITAA 1936 is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA of the ITAA 1936 to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA of the ITAA 1936 applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA of the ITAA 1936, go to our website www.ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.