Private ruling: The treatment of certain payments
Date of advice: 20 December 2017
Published: May 2018
Ruling period: Year ended 30 June 2014
Date scheme commenced: 1 July 2013

Ruling: Q1: Should the amounts received under the resumption compensation agreement that relate to the easement taken by Entity B be treated as capital proceeds for the part disposal of the relevant property? | A1: Yes. | Q2: Will the payments for the gravel extracted from your property reduce the cost base of the land for any future capital gain under section 110-40 or section 110-45 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A2: No. | Q3: Will payments received for the gravel and water taken from your land form part of your assessable income? | A3: Yes.

Relevant facts and circumstances: You previously co-owned a property at Lot Y. The property was sold on XX/XX/XXXX. Prior to the sale of the property, mining activities began on the land. On XX/XX/XXXX you and the other land owners entered into a gravel take agreement with Entity A for Lot Y. It is expected that the carrying capacity of the land will reduce due to the reduction in the actual amount of land available as a result of the placement of the mining infrastructure on the land and the impact on the productivity of all land due to the presence of all mining activities on the land. The gravel take agreement provides that up to XXX,XXX tonnes of gravel may be extracted from Lot Y. A minimum amount of XX,XXX tonnes will be extracted. The price per tonne was set at $X per tonne. The gravel take agreement provides that you as the landowner must not damage or interfere with any equipment or infrastructure installed or used by Entity A. The gravel take agreement also states that you must not permit or enter into an agreement or arrangement to allow any other person to take or use gravel from the land unless you have the written consent of Entity A to do so. On XX/XX/XXXX you and the other land owners entered into a water take agreement with Entity A for Lot Y. The amount to be paid for the water is XX cents per 100 litres and up to a maximum of XX mega-litres may be extracted from the property. The take point is a dam. The amount of water taken by Entity A from the dam is commensurate with available supplies which are governed by season conditions. The water sold is dependent on the available level of water in the dam. You have also negotiated contracts with Entity B in relation to Entity B infrastructure on your land. On XX/XX/XXXX you and the other land owners entered into a Resumption Claim Agreement (RCA) for Lot Y with Entity B. The compensation amount received under this contract was $X. Entity B has access to compulsory powers should they need to use them to compulsorily acquire an easement to construct pylons on the land. The actual powerline causes a permanent scar on the property but is a significant distance away from the homestead and it is not considered to have an immediate impact on the people residing on the property. However, there has been a loss of land area and some inconvenience caused by the placement of the Entity B powerlines/pylons on the property.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 6-5, | Income Tax Assessment Act 1997 Section 6-10, | Income Tax Assessment Act 1997 Section 15-20, | Income Tax Assessment Act 1997 Section 110-40 and | Income Tax Assessment Act 1997 Section 110-45.

Reasons for decision: Summary: The payments you received from Entity B in relation to granting the easement is considered to be capital proceeds from the part disposal of the Land. If they result in a gain, it is assessable as a capital gain. Any payments you received for the extraction of water and gravel are considered to form part of your assessable income. | Detailed Reasoning - Resumption Compensation Agreement payments: Payments relating to the easements An easement is a right over someone else’s land or property. It is an asset which is created at the time it is granted. The taxation treatment of a payment for the granting of an easement depends on whether the easement has been created by compulsory acquisition or as a voluntary action. Taxation Ruling TR 97/3 at paragraph 4 states: Compensation in respect of an easement created by statute in favour of a public authority cannot be said to have been received for the grant of the easement. The Land Acquisition (Just Terms Compensation) Act 1991 (NSW) and similar Acts in other jurisdictions enable public authorities to take land or an interest in land (including an easement) for specified purposes and confer on the affected landowner a right to compensation. In these circumstances, the landowner cannot be said to have created an asset as required for subsection 160M(6) of the Act to apply. The easement is created by operation of the relevant statute and is vested in the public authority. This constitutes a compulsory acquisition of the easement. Note: subsection 160M(6) of the Income Tax Assessment Act 1936 referred to in the above paragraph has been replaced with section 104-35 of the Income Tax Assessment Act 1997 (ITAA 1997). The effect of both provisions is the same. As stated above, TR 95/35 examines the treatment of any amount received in respect of a right to seek compensation in relation to an underlying asset. Where easements are acquired under statute, the underlying asset is the landowner’s pre-existing land with its rights of ownership, including the right to exclude all others. This right to exclude all others is forfeited when the easement comes into existence. Compensation received by a landowner for the loss of part of the rights of ownership is accepted as being consideration received in respect of the part disposal of the underlying asset (the land) (paragraph 8 of TR 97/3). It is possible that a public authority that has the power to compulsorily acquire an easement by exercising a statutory power may enter into an agreement with the landowner to acquire the easement. The Commissioner’s view, in these situations, is the amount received takes on the same character as compensation for a compulsorily acquired easement. Thus, the consideration (compensation) for granting the easement is treated as being paid in respect of the part disposal of the land and not in respect of the grant of the easement (paragraphs 9 and 10 of TR 97/3). It is accepted that Entity B has the legislative power to compulsorily acquire the easement. Thus, the payment you received from Entity B is considered to be capital proceeds for the part disposal of the Land. Any gain you made from the granting of the Easements is assessable as a capital gain. | Detailed Reasoning - Payments for gravel extraction: Section 15-20 of the ITAA 1997 states your assessable income includes an amount that you receive as or by way of royalty if the amount is not assessable as ordinary income under section 6- 5 of the ITAA 1997. Royalties are statutory income. The Commissioner’s view on the definition of a royalty is provided by Taxation Ruling IT 2660. The ordinary meaning of the term ‘royalty’ has been considered by the Courts on many occasions. In Stanton v. FC of T (1955) CLR 630, the High Court of Australia described the essence of a royalty and stated that: … the modern applications of the term seem to fall under two heads, namely the payments which the grantees of monopolies such as patents and copyrights receive under licences and payments which the owner of the soil obtains in respect of the taking of some special thing forming part of it or attached to it which he suffers to be taken. Paragraph 10 of IT 2660 provides that in the Commissioner’s view there are four key characteristics of a common law royalty: ● it is a payment made in return for the right to exercise a beneficial privilege or right, for example to remove minerals or natural resources such as timber (McCauley v. FC of T (1944) 69 CLR 235) ● the payment is made to the person who owns the right to confer that beneficial privilege or right ( Barrett v. FC of T (1968) 11 CLR 666) ● the consideration payable is determined on the basis of the amount of use made of the right required ( McCauley, Stanton) , and ● the consideration will usually be paid as and when the right acquired is exercised. However, a lump sum payment will be a royalty where it is a pre-estimate or an after the event recognition of the amount of use made of the right acquired ( IR Commissioners v. Longmans Green & Co Ltd (1932) 17 TC 272). In your case, you entered into an agreement with Entity A whereby you were to receive payments for the volume of gravel extracted from your property. Gravel is a natural resource. It is considered that the payment for each cubic metre of gravel extracted will be a payment by way of royalty and assessable under section 15-20 of the ITAA 1997. | Detailed Reasoning - Payments for water taken: You also entered into an agreement with Entity A whereby you were to receive payments for the volume of water taken from a dam on your property. The amount of water taken is dependent on the available level of water in the dam which is governed by seasonal conditions. It is considered that any proceeds you received from the sale of the water is ordinary income. Even if the proceeds were not ordinary income, they would be assessable as a royalty given that the water is a natural resource that was removed from your land.