Private ruling: Government funding receipt
Published: August 2013
Ruling period: 1 July 2010 to 30 June 2011
Date scheme commenced: 1 July 2010

Ruling: Q1: Will government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which is leased to another entity for the purposes of operating a business be assessable under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No | Q2: Will government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which is leased to another entity for the purposes of operating a business be assessable under section 15-10 of the ITAA 1997? | A2: No | Q3: Will government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which is leased to another entity for the purposes of operating a business be assessable under sections 104-25, 104-35 or 104-155 of the ITAA 1997? | A3: Yes | Q4: If the answer to question 3 is yes, will any capital gain or capital loss resulting from government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which is leased to another entity for the purposes of operating a business be disregarded under Subdivision 118-A of the ITAA 1997? | A4: Yes | Q5: Will the cost base and reduced cost base of the CGT asset (i.e. the building) created be reduced to the extent of the grant monies received as a recoupment of expenditure under subsections 110-45(3) or 110-55(6) of the ITAA 1997? | A5: Yes

Relevant facts and circumstances: 1. The taxpayer entered into a funding agreement (Agreement) with a government agency under a funding scheme to construct a new manufacturing facility. 2. The manufacturing facility is leased by the taxpayer to a related entity, from which it operates the business. 3. The taxpayer is the legal owner of the manufacturing facility and its only activity is to act as lessor in relation to this facility.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 6-1 | Income Tax Assessment Act 1997 Section 6-5 | Income Tax Assessment Act 1997 Section 6-10 | Income Tax Assessment Act 1997 Section 10-5 | Income Tax Assessment Act 1997 Section 15-10 | Income Tax Assessment Act 1997 Subsection 102-25(3) | Income Tax Assessment Act 1997 Subsection 104-25(1) | Income Tax Assessment Act 1997 Subsection 104-35(1) | Income Tax Assessment Act 1997 Subsection 104-155(1) | Income Tax Assessment Act 1997 Subsection 110-25(6) | Income Tax Assessment Act 1997 Subsection 110-45(3) | Income Tax Assessment Act 1997 Subsection 110-55(2) | Income Tax Assessment Act 1997 Subsection 110-55(6) | Income Tax Assessment Act 1997 Subdivision 118-A | Income Tax Assessment Act 1997 Paragraph 118-37(2)(a) Question 1 | Summary | 1. Government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which is leased to another entity for the purposes of operating a business is not assessable under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997). | Detailed reasoning | 2. Section 6-1 of the ITAA 1997 provides that a taxpayer's assessable income includes ordinary income and statutory income. | 3. Ordinary income, pursuant to section 6-5 of the ITAA 1997 is income according to ordinary concepts. | 4. The courts have identified a number of factors which indicate whether an amount has the character of income. A frequent characteristic of income receipts is an element of periodicity, recurrence or regularity. However these characteristics are not always essential as in some circumstances proceeds from an isolated transaction received as a lump sum may also be income. | 5. The payments received by the taxpayer are effectively a one-off payment that was paid in instalments as certain milestones were met. | 6. In G P International Pipecoaters Pty Ltd v FC of T (1990) 170 CLR 124; 90 ATC 4413; (1990) 21 ATR 1 the High court commented on the characterisation of a payment that was intended to assist the recipient with capital costs, saying that such receipts would be capital in nature and therefore not ordinary income. | 7. In conclusion, the government funding received by the taxpayer is not assessable income under section 6-5 of the ITAA 1997. | Question 2 | Summary | 8. Government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which will be leased to another entity for the purposes of operating a business is not assessable under section 15-10 of the ITAA 1997. | Detailed reasoning | 9. Statutory income, pursuant to section 6-10 of the ITAA 1997, is amounts that are not ordinary income but are included in assessable income by other provisions. Many of these provisions are listed in section 10-5 of the ITAA 1997. Relevantly, bounties or subsidies may be included in assessable income under section 15-10 of the ITAA 1997. | 10. Section 15-10 of the ITAA 1997 provides that assessable income includes a bounty or subsidy that: | (a) you receive in relation to carrying on a business; and | (b) is not assessable as ordinary income under section 6-5. | 11. A bounty or subsidy includes a grant and other financial assistance provided by Government to assist business ( The Squatting Investment Co v FC of T (1953) 86 CLR 570; (1953) 10 ATD 126; (1953) 5 AITR 496). | 12. The government funding is therefore a bounty or subsidy for the purposes of section 15-10 of the ITAA 1997. | 13. Paragraph 19 of Taxation Ruling TR 2006/3 Income tax: government payments to industry to assist entities (including individuals) to continue, commence or cease business relevantly states that a government payment to industry (GPI) received to construct an asset is assessable income under section 15-10 of the ITAA 1997 if that is an activity in relation to carrying on a business. | 14. The government funding was received by the taxpayer to construct the manufacturing facility of which it is the legal owner. Its only activity is as the lessor of the manufacturing facility, with the business being operated by the related entity. | 15. In conclusion, the government funding received by the taxpayer is not assessable income under section 15-10 of the ITAA 1997, as the taxpayer was not carrying on a business. | Question 3 | Summary | 16. The government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which will be leased to another entity for the purposes of operating a business is assessable under 104-35 of the ITAA 1997. | Detailed reasoning | 17. Subsection 102-25(3) of the ITAA 1997 states that if no CGT event (except CGT events D1 and H2) happens: | (a) work out if CGT event D1 happens and use that event if it does, and | (b) if it does not, work out if CGT event H2 happens and use that event if does. | 18. The government funding was received by the taxpayer as a result of it entering the Agreement with the government agency. | 19. This will immediately eliminate CGT event C2 under subsection 104-25(1) of the ITAA 1997 from happening, as there has been no end to the ownership of an intangible asset. | 20. However, this will mean that CGT event D1 under subsection 104-35(1) of the ITAA 1997 has happened, as the taxpayer has created a contractual right in the government agency. This is confirmed by paragraph 6 of TR 2006/3, which in part states: | 6. … In cases where a contractual or other right is created by the taxpayer entering into an agreement in return for the payment (for example - a GPI received for entering into a restraint of trade agreement, CGT event D1 will apply and the receipt will form part of the capital proceeds for the event. … | 21. As CGT event D1 has happened, then subsection 102-25(3) of the ITAA 1997 operates so that there is no requirement to consider whether or not CGT event H2 under subsection 104-155(1) of the ITAA 1997 has happened. | 22. In conclusion, the government funding received by the taxpayer is assessable under section 104-35 of the ITAA 1997. | Question 4 | Summary | 23. Any capital gain or capital loss resulting from government funding paid in relation to the construction of a new manufacturing facility to a sole purpose rental entity which will be leased to another entity for the purposes of operating a business will be disregarded under Subdivision 118-A of the ITAA 1997. | Detailed reasoning | 24. Paragraph 118-37(2)(a) of the ITAA 1997 provides that a capital gain or capital loss is disregarded if you make it as a result of receiving a payment as reimbursement or payment of your expenses under a scheme established by an Australian government agency under an enactment of an instrument of a legislative character. | 25. In relation to this, paragraph 5.23 of the Revised Explanatory Memorandum in relation to the Tax Laws Amendment (2006 Measures No. 3) Bill 2006 provides the following: | 5.23 The requirement that the scheme be established under an enactment or an instrument of a legislative character would be satisfied where the scheme is established that way either expressly or by necessary implication. An enactment would include an Appropriation Act (or equivalent) having regard to associated documentation such as budget papers. An instrument of a legislative character would include regulations (and similar instruments) and local government by-laws. | 26. The funding scheme meets these requirements, and therefore in conclusion, any capital gain or capital loss resulting from the government funding received by the taxpayer will be disregarded under Subdivision 118-A of the ITAA 1997. | Question 5 | Summary | 27. The cost base and reduced cost base of the CGT asset (i.e. the building) created will be reduced to the extent of the grant monies received as a recoupment of expenditure under subsections 110-45(3) or 110-55(6) of the ITAA 1997. | Detailed reasoning | 28. The expenditure incurred by the taxpayer in constructing the building of the manufacturing facility will represent the fifth element of the building's cost base and reduced cost base under subsections 110-25(6) and 110-55(2) of the ITAA 1997. | 29. Subsections 110-45(3) and 110-55(6) of the ITAA 1997 provide that expenditure does not form part of any element of the cost base and reduced cost base to the extent of any amount you have received as a recoupment of it, except so far as the amount is included in your assessable income. | 30. The taxpayer has received the government funding for the purposes of it being expended in the construction of the manufacturing facility, including the construction of the building, meaning that subsections 110-45(3) and 110-55(6) of the ITAA 1997 will apply. This is confirmed by paragraph 6 of TR 2006/3, which in part states: | 6. … If the payment recoups expenditure forming one of the elements of the cost base, the cost base is taken never to have included the original expenditure, thus potentially increasing a future capital gain or decreasing a future capital loss … | 31. In conclusion, the government funding received by the taxpayer will reduce the building's cost base and reduced cost base under subsections 110-45(3) and 110-55(6) of the ITAA 1997 to the extent it was a recoupment for the building's construction expenditure incurred by the taxpayer.