Private ruling: Part of a loss year
Published: March 2015
Ruling period: Income year ended 30 June 20XY (year 5)
Date scheme commenced: During the income year ended 30 June 20XX (year 1)

Ruling: Q1: Will section 165-20 of the Income Tax Assessment Act 1997 (ITAA 1997) apply to allow the Company to treat the 2nd period of year 1 as the whole of the loss year for the purposes of deducting in year 5 part of the tax loss incurred in year 1? | A1: Yes | Q2: If the answer to Question 1 is yes, given the assets were first used for exploration during the 2nd period of year 1, did the deduction under section 40-80 of the ITAA 1997 for the decline in value of the assets arise in that 2nd period of year 1 (and thus is included in the part of the tax loss incurred during that 2nd period)? | A2: Yes | Q3: If the answer to Question 1 is yes, is a portion of the expenditure incurred in the 1st period of year 1 that is deductible over five years under section 40-880 able to be treated as deductible in the 2nd period of year 1? | A3: Yes | Q4: If the answer to Question 3 is yes, is the portion of the expenditure that is deductible under section 40-880 of the ITAA 1997 for the 2nd period of year 1 apportioned based on the number of days in the 2nd period divided by 365? | A4: Yes | Q5: If the answer to Question 1 is yes, is the expenditure that becomes deductible under section 8-1 or section 40-730 of the ITAA 1997 in the 2nd period of year 1 included in the calculations of the part of the tax loss incurred in the 2nd period of year 1? | A5: Yes

Relevant facts and circumstances: 1. The Australian resident Company incurred a tax loss in year 1 (a loss year) which it seeks to deduct in year 5 (an income year). 2. However part way during year 1 there was a change in the Company's shareholding such that it cannot satisfy the continuity of ownership test (COT) for deducting the year 1 loss in year 5. 3. In addition, the Company underwent some change to its business such that it also cannot satisfy the same business test (SBT) for deducting the year 1 loss in year 5. 4. From the time of the change in share ownership in year 1 onwards (that is, from the 2nd period of year 1) till the end of year 5, the Company satisfies the COT or alternatively the SBT.

Relevant legislative provisions: Section 165-20 of the Income Tax Assessment Act 1997

Reasons for decision: Summary: In circumstances where section 165-10 of the ITAA 1997 prevents a company from deducting a tax loss (i.e. because COT and SBT have been failed), section 165-20 of the ITAA 1997 allows a deduction for part of a tax loss incurred during part of the loss year if, assuming that part of the loss year had been treated as the whole of the loss year for the purposes of section 165-10, the company would have been entitled to deduct the tax loss. Accordingly, applying section 165-20, where the 2nd period of year 1 is taken to be the whole of the loss year, section 165-10 of the ITAA 1997 would not prevent the Company from deducting in year 5 part of the loss incurred in year 1. This is because for the 2nd period of year 1 either the COT is satisfied, or failing the COT the SBT is satisfied, in relation to being eligible to deduct in year 5 the part loss. Therefore, section 165-20 of the ITAA 1997 should operate to allow the Company to treat the 2nd period of year 1 as the whole of the loss year. Under section 40-80 of the ITAA 1997, the decline in value occurs when 'you first use' the depreciating asset. At this time, the assets are taken to have declined in value in full and a deduction for the cost is allowed. Where the cost of the assets was incurred before the 2nd period of year 1 but the assets were first used during the 2nd period of year 1 the relevant deduction becomes deductible in the 2nd period and falls exclusively within the 2nd period for the purposes of applying section 165-20 of the ITAA 1997. Section 40-880 of the ITAA 1997 provides that certain business related capital expenditure is deductible over a period of 5 income years. Subsection 40-880(2) of the ITAA 1997 provides that 'you can deduct, in equal proportions over a period of 5 income years starting in the year in which you incur it, capital expenditure you incur…' The Company incurred relevant expenditure during the 1st period of year 1 of which a fifth has been treated as deductible in year 1. Once the total deduction under section 40-880 of the ITAA 1997 is determined for year 1, the deduction relates to the whole of that year. Accordingly, it is appropriate that a portion of the deduction will be treated as deductible in the 2nd period for the purposes of applying section 165-20 of the ITAA 1997. Where a portion of the deduction under section 40-880 of the ITAA 1997 is deductible in the 2nd period of year 1, an appropriate method to apportion the deduction is based on the number of days in the period compared to the number of days in the income year. This is on the basis that the deduction relates to the income year rather than a specific point in time in that year. As such it is appropriate to consider that the deduction applies over the whole year and that it should be apportioned based on the proportion of the year that the relevant period covers. An apportionment based on the number of days in the period would be reasonable. Any expenditure incurred in the 2nd period of year 1 that would ordinarily be deductible under section 8-1 or section 40-730 of the ITAA 1997 in calculating a tax loss for a relevant period, will contribute fully in calculating the Company's tax loss for the purposes of applying section 165-20 of the ITAA 1997 for that part of year 1.