ATO ID 2004/825: Capital works: construction expenditure area -your area - earlier lessee's expenditure
Date of decision: 31 August 2004
Year of income: Year ended 30 June 2004 Year ended 30 June 2005 Year ended 30 June 2006
Business line: Private Groups and High Wealth Individuals

Issue
Does the taxpayer have an area defined by subsection 43-120(2) of the Income Tax Assessment Act 1997 (ITAA 1997) as 'your area' where the taxpayer purchases the interest in a sublease from a company incurring the construction expenditure on the capital works?

Decision
No. That part of the construction expenditure area that the taxpayer leases has not been continuously leased since the construction was completed by either the lessee who incurred the expenditure or an assignee of the constructing lessee's lease.

Facts
Company A owned land that it wished to develop. Company A granted Company B a 199 year lease over the land ('the head lease'), whereupon Company B constructed a unit complex on the land. When the construction was completed Company B leased, with a term less than that of the head lease, the whole complex to Company C ('the sublease'), which leased back to Company B separately each of the completed units in the complex ('the sub-subleases'). The sub-subleases terminated one day before the sublease. Company B then sold its interest in the sub-subleases to other parties. The taxpayer purchased the interest in one of the sub-subleases to rent the unit for the purpose of producing assessable income. After Company B had sold all of its interest in the sub-subleases to the other parties it assigned its interest in the head lease to Company C.

Reasons for decision
Summary: Broadly speaking, Division 43 of the ITAA 1997 allows you to deduct an amount for construction expenditure on certain income producing capital works for an income year. A deduction is dependent, among other things, on whether you have a construction expenditure area that is 'your area', as defined in Subdivision 43-C of the ITAA 1997, for the capital work. 'Your area' has the meaning given in sections 43-115 and 43-120 of the ITAA 1997. How 'your area' is determined under those sections depends on whether you are an owner or a lessee (or holder of a quasi-ownership right) of the part of the capital work on which the construction expenditure is incurred. Subsection 43-120(2) of the ITAA 1997 applies where you are a lessee and the construction expenditure was incurred by an earlier lessee. The provision provides that 'your area' is that part of the construction expenditure area that has been continuously leased from the time of completion by the lessee who incurred the expenditure or an assignee of that lessee's lease. It is only the original lessee who incurred the construction expenditure or an assignee of that lessee's lease that can have 'your area'. In this case, 'that lessee's lease' is the head lease of which Company B is the lessee because the construction expenditure was incurred by Company B under the head lease and before the sublease was entered into. The taxpayer is the assignee of one of the sub-subleases by way of purchasing the interest in the sub-sublease from Company B. However, the taxpayer is not an assignee of the head lease because the head lease between Company A and Company B is a different lease to any of the sub-subleases between Company C and Company B even though Company B is the lessee of the head lease and the sub-subleases. The part of construction expenditure area the taxpayer leases has not been continuously leased by the taxpayer since construction was completed by the lessee who incurred the expenditure (that is, Company B) or an assignee of Company B's lease (that is, the head lease). The taxpayer does not have 'your area' as defined in subsection 43-120(2) of the ITAA 1997.

Legislative references: Income Tax Assessment Act 1997 Division 43 Subdivision 43-C section 43-115 section 43-120 subsection 43-120(2)
Related ATO interpretative decisions: ATO ID 2004/410
Subject references: Assignment of lease Building depreciation Construction expenditure area