Mitsui Co (Australia) Ltd v Commissioner of Taxation
Document type: Decision Impact Statement
Venue: Federal Court of Australia (WAD 17 of 2012)
Judgment date: 14 August 2012
Date published: 21 October 2014

Summary of decision:
Outlines the ATO's response to this case about whether a taxpayer purchasing a percentage interest in a petroleum production licence acquired a single depreciating asset (the licence) or two depreciating assets, being the rights to produce and explore granted under the licence.

Overview of facts:
Under a Sale and Purchase Agreement (Sale Agreement), the purchaser acquired a 40% interest in certain assets, including an exploration permit (Permit) and a production licence (Licence) granted under the Petroleum (Submerged Lands) Act 1967 (PSLA). The purchaser is a subsidiary member of a consolidated group of which the taxpayer is the head company. | The Permit had originally been granted to the vendor in 1997. The permit area was located off the coast of Western Australia, and was delineated by reference to a number of graticular blocks. The vendor carried out exploration in the permit area and three petroleum fields were discovered in the area, referred to as the Vincent Field, the Enfield Field and the Laverda Field. | In 2001 the vendor had nominated three of those graticular blocks covered by the original Permit as a "location" for the purposes of the PSLA, and the Designated Authority made a declaration of location in respect of those blocks. The Enfield Field was located wholly within those three adjacent graticular blocks. The Vincent Field was partly within one of those graticular blocks (and partly within the area of another exploration permit granted under the PSLA). | In 2003 the vendor, having formed the view that the Enfield Field was economically viable, made an application for a production licence in respect of those three graticular blocks. The vendor submitted a field development plan to the Designated Authority in respect of the Enfield Field. | In March 2004 the Licence was granted to the vendor by the Designated Authority. The Licence area covered the three graticular blocks nominated as a location; these blocks were excised from the Permit area. The result of this was that the Enfield Field was wholly within the area of the Licence and the Vincent Field was partly within the area of the Licence. (No part of the Laverda Field was within the Licence.) | The purchaser subsequently entered into the Sale Agreement with the vendor and acquired the 40% interest in the Licence and the Permit (as well as a 40% interest in other assets). The Sale Agreement provided for a single purchase price, with no provision for apportionment between any particular assets. The purchaser and vendor also entered into two joint operating agreements, one relating to the Permit and the other to the Licence. | Section 52 of the PSLA authorises the holder of a production licence to: • recover petroleum in the area constituted by the blocks that are the subject of the licence; • explore for petroleum in that area; and • carry on such operations and execute such works in that area as are necessary for those purposes. | • recover petroleum in the area constituted by the blocks that are the subject of the licence; • explore for petroleum in that area; and • carry on such operations and execute such works in that area as are necessary for those purposes. | For the purposes of preparing its income tax return for the 2005 income year, the taxpayer apportioned the purchase price paid under the Sale Agreement between the Enfield Field, Vincent Field and Laverda Field, on the basis that the amount paid was attributable to having acquired separate rights in respect of each of the fields. The taxpayer contended that the authorisation to explore for petroleum constituted a separate "mining, quarrying or prospecting right" for the purposes of the definition in section 995-1 of the ITAA 1997, and a separate depreciating asset. Therefore, it was contended that the taxpayer was entitled to a deduction in the 2005 income year equal to the portion of the purchase price it apportioned to the Vincent Field, that being the amount of the decline in value of the right to explore. | In the alternative, the taxpayer contended that if the authorisation to explore and authorisation to recover were not separate depreciating assets, then they were components of one depreciating asset which were functionally different and capable of being exercised separately, such that they were to be treated as separate depreciating assets under subsection 40-30(4). | The Commissioner contended that the 40% interest acquired by the purchaser in the Licence was a single mining, quarrying or prospecting right and therefore a single depreciating asset for the purposes of Division 40. On this basis, the Commissioner said that the taxpayer was not entitled to an immediate deduction in the 2005 income year for the part of the purchase price apportioned by the taxpayer to the Vincent Field. | Issues decided by the Court l | The Full Federal Court held that the Licence comprised a "mining, quarrying and prospecting right" for the purposes of the definition of that term in section 995-1 of the ITAA 1997, and therefore constituted a single depreciating asset. | The Licence and rights conferred by section 52 of the PSLA were intangible assets and therefore were not depreciating assets unless they fall within one of the types of depreciating assets specified in subsection 40-30(2). | Therefore the question was not whether each right acquired as a result of the grant of the Licence was an asset, but whether the taxpayer acquired a "mining, quarrying or prospecting right" as defined. | The Court rejected the taxpayer's submission that the word "right" as used in that definition referred to underlying or substantive statutory rights conferred on the holder of such a production licence. Their Honours observed (at [50]): "Thus, the words authority, licence, permit, right and lease are descriptive of the various types of mining titles that might arise under various Australian laws. The fact that a particular Australian law dealing with a mining title might use a different term to convey the concept of authority, permission or licence to mine, quarry or prospect, such as the term retention lease in the Petroleum Act, does not mean that that mining title cannot fall within the definition. It will do so if it can fairly be characterised as an authority, licence, permit or right to mine, quarry or prospect for minerals or petroleum." | Further, the Court noted that although other provisions of Division 40 of the ITAA 1997 might refer to petroleum fields, the definition of mining, quarrying or prospecting right makes no reference to a particular field or site, nor did the PSLA. The scheme of the PSLA was to grant rights only in respect of graticular blocks. The fact that a mining title might derive its value from the underlying entitlements that it conferred did not determine whether each of those entitlements was a separate depreciating asset for the purposes of Division 40. | In relation to the taxpayer's alternative argument, the Court said that subsection 40-30(4) could not apply. A production licence was not a "composite" asset because it was the licence itself (or interest in the licence) that fell within the definition of a mining, quarrying or prospecting right. It was therefore deemed to be a depreciating asset by subsection 40-30(2) and not capable of being further divided. In any event, for an asset to be a composite item each of its components must be capable of separate existence. For intangible property created by statute, the issue of whether it is a composite item requires consideration of the legal character of the item, by reference to the relevant statute. Here, the statutory scheme of the PSLA did not support the conclusion that the production licence was a composite item, or that the components of a production licence are separate depreciating assets.

Issues decided:
The Full Federal Court held that the Licence comprised a "mining, quarrying and prospecting right" for the purposes of the definition of that term in section 995-1 of the ITAA 1997, and therefore constituted a single depreciating asset. The Licence and rights conferred by section 52 of the PSLA were intangible assets and therefore were not depreciating assets unless they fall within one of the types of depreciating assets specified in subsection 40-30(2). Therefore the question was not whether each right acquired as a result of the grant of the Licence was an asset, but whether the taxpayer acquired a "mining, quarrying or prospecting right" as defined. The Court rejected the taxpayer's submission that the word "right" as used in that definition referred to underlying or substantive statutory rights conferred on the holder of such a production licence. Their Honours observed (at [50]): "Thus, the words authority, licence, permit, right and lease are descriptive of the various types of mining titles that might arise under various Australian laws. The fact that a particular Australian law dealing with a mining title might use a different term to convey the concept of authority, permission or licence to mine, quarry or prospect, such as the term retention lease in the Petroleum Act, does not mean that that mining title cannot fall within the definition. It will do so if it can fairly be characterised as an authority, licence, permit or right to mine, quarry or prospect for minerals or petroleum." Further, the Court noted that although other provisions of Division 40 of the ITAA 1997 might refer to petroleum fields, the definition of mining, quarrying or prospecting right makes no reference to a particular field or site, nor did the PSLA. The scheme of the PSLA was to grant rights only in respect of graticular blocks. The fact that a mining title might derive its value from the underlying entitlements that it conferred did not determine whether each of those entitlements was a separate depreciating asset for the purposes of Division 40. In relation to the taxpayer's alternative argument, the Court said that subsection 40-30(4) could not apply. A production licence was not a "composite" asset because it was the licence itself (or interest in the licence) that fell within the definition of a mining, quarrying or prospecting right. It was therefore deemed to be a depreciating asset by subsection 40-30(2) and not capable of being further divided. In any event, for an asset to be a composite item each of its components must be capable of separate existence. For intangible property created by statute, the issue of whether it is a composite item requires consideration of the legal character of the item, by reference to the relevant statute. Here, the statutory scheme of the PSLA did not support the conclusion that the production licence was a composite item, or that the components of a production licence are separate depreciating assets.

ATO view of decision:
The Full Court's conclusions on the identification of the relevant depreciating asset for the purposes of Division 40 of the ITAA 1997 arising from the grant of the production license granted under the PSLA are consistent with the ATO's submissions in the case. The outcome of the case also reflects the conclusion reached by the ATO in ATO ID 2010/45.

Administrative treatment:
Implications for ATO Precedential documents | Following the decision of the Full Federal Court, the Commissioner will review the legislative interpretation contained in the following ATO Interpretative Decisions: ATO ID 2007/116 ATO ID 2009/130 ATO ID 2010/2 ATO ID 2010/45 ATO ID 2010/64 ATO ID 2010/65 ATO ID 2010/66 ATO ID 2010/67 ATO ID 2011/25 | Implications for Law Administration Practice Statements | None | Your comments | We invite you to advise us if you feel this decision has consequences we have not identified, or if a precedential decision such as a Public Ruling or an ATO ID requires reconsideration or amendment. Please forward your comments to the contact officer by the due date. Date issued: 20 December 2012 Contact officer details have been removed as the comments period has ended. | Date of amendment Part Comment 21 October 2014 Relevant Rulings/Determinations Amend heading to read 'Relevant ATO precedential documents' Inserted relevant ATO IDs Administrative treatment Updated to include ATO IDs under review

Legislative references: Income Tax Assessment Act 1997 (Cth) 40-25 40-30 40-40 40-80 40-95 40-110 40-730 995-1