Private ruling: Application of Division 58 of the Income Tax Assessment Act 1997
Published: April 2013
Ruling period: Five income years.
Date scheme commenced: During the 2005 income year.

Ruling: Q1: Does Division 58 of the Income Tax Assessment Act 1997 (ITAA 1997) apply to owned assets, and leased assets (being the assets leased from an exempt entity), in order to calculate their opening adjustable value for the purposes of Division 40 of the ITAA 1997? | A1: Yes. The owned assets and the leased assets (being the assets leased from an exempt entity) are privatised assets subject to the rules in Subdivision 58-B of the ITAA 1997 which affect the way the decline in value of the privatised assets under Division 40 of the ITAA 1997 is calculated. | Q2: Are all components part of a single functional unit of plant for the purposes of Division 40 of the ITAA 1997? | A2: Yes. All components are part of a single functional unit of plant for the purposes of Division 40 of the ITAA 1997. | Q3: Is the method applied to attribute a portion of the total book value specified in the balance sheet of the exempt entity to the pre-existing audited book value (PABV) of the privatised assets, a 'reasonable attribution' for the purpose of subsection 58-85(2) of the ITAA 1997? | A3: Yes. The method applied to attribute a portion of the total book value specified in the balance sheet of the exempt entity to the PABV of the privatised assets is a 'reasonable attribution' for the purpose of subsection 58-85(2) of the ITAA 1997.

Relevant facts and circumstances: The company carries on a business that relates to the ownership or leasing of infrastructure. Under a lease (the Lease), the company leases infrastructure comprising of various assets. The company has also purchased depreciable non-fixtures from the previous owners. Under a sale agreement, the owned assets included plant, equipment, machinery, vehicles, computer hardware and communications devices. The entities from which the company leased the infrastructure are, and at all relevant times have been, exempt entities for income tax purposes. Pursuant to Division 40 of the ITAA 1997, the company is a holder of the owned assets (as their legal owner). The company is also a holder of the leased assets that are depreciating assets, fixed to land, for which it has a right of removal under the lease. The company has undertaken significant effort in order to identify the various assets acquired and confirm their tax status. The company has detailed asset information to calculate the PABV (under Division 58 of the ITAA 1997) of many of the assets. However, in respect of certain other assets, there are some gaps in the historical asset information available to the company to support the PABV.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 40-30. | Income Tax Assessment Act 1997 Subsection 40-30(4). | Income Tax Assessment Act 1997 Section 40-40. | Income Tax Assessment Act 1997 Subsection 58-5(4). | Income Tax Assessment Act 1997 Paragraph 58-5(4)(a). | Income Tax Assessment Act 1997 Paragraph 58-5(4)(b). | Income Tax Assessment Act 1997 Section 58-10. | Income Tax Assessment Act 1997 Paragraph 58-10(2)(a). | Income Tax Assessment Act 1997 Section 58-65. | Income Tax Assessment Act 1997 Section 58-85. | Income Tax Assessment Act 1997 Paragraph 58-85(1)(a). | Income Tax Assessment Act 1997 Paragraph 58-85(1)(b). | Income Tax Assessment Act 1997 Paragraph 58-85(1)(c). | Income Tax Assessment Act 1997 Subsection 58-85(2). | Acts Interpretation Act 1901 Section 15AA.

Reasons for decision: Summary: Division 58 of the ITAA 1997 sets out special rules that apply in calculating deductions for the decline in value of depreciating assets previously owned by an exempt entity. Division 58 of the ITAA 1997 applies in two defined situations: · an entity sale situation; and · an asset sale situation. Subsection 58-5(4) of the ITAA 1997 defines an asset sale situation. The definition is satisfied where an entity whose income is assessable acquires a depreciating asset from an exempt entity (paragraph 58-5(4)(a) of the ITAA 1997) and the asset is acquired in connection with the acquisition of a business from the exempt entity (paragraph 58-5(4)(b) of the ITAA 1997). The asset sale situation requires the identification of an acquisition. 'Acquire' is not defined in Division 58 of the ITAA 1997 and takes its ordinary meaning, shaped by the context in which it appears. The meaning given in the Macquarie Dictionary (5th edition) of 'acquire' is 'to come into possession of; get as one's own'. In the context of obtaining a deduction for decline in value under Division 40 of the ITAA 1997, it is unclear whether the word 'acquire' requires the taxpayer to become a specific type of holder (for example, an owner under item 10 of the table in section 40-40 of the ITAA 1997) or a holder under any item in the table in section 40-40 of the ITAA 1997. Section 15AA of the Acts Interpretation Act 1901 provides: In the interpretation of a provision of an Act, a construction that would promote the purpose or object underlying the Act (whether that purpose or object is expressly stated in the Act or not) shall be preferred to a construction that would not promote that purpose or object. The essential purpose of Division 58 of the ITAA 1997 is to modify the rules under which a depreciating asset of an exempt entity is brought into the tax system for the purposes of calculating a deduction for its decline in value. Division 58 of the ITAA 1997 sought to provide consistency in the application of entity sale and asset sale situations. Paragraph 3.10 of the Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 2) 1999, to the extent that is relevant here, explains this policy: The proposed measures ensure that where depreciable assets of an exempt entity enter the tax net and that transfer is in connection with the acquisition of a business, the purchaser should obtain the same opening value for depreciation purposes irrespective of whether the transition of the assets into the tax net occurs by way of entity sale or asset sale. Upon the introduction of Division 40 of the ITAA 1997, a new Division 58 of the ITAA 1997 was introduced. The general outline of the Explanatory Memorandum to the New Business Tax System (Capital Allowances - Transitional and Consequential) Bill 2001 which inserted new Division 58 of the ITAA 1997 stated that existing regimes using different terms and concepts required amendments to ensure that assets subject to the current law moved smoothly into the uniform capital allowance system. There was no change either implicitly or explicitly in the policy underlying Division 58 of the ITAA 1997 and the new Division 58 of the ITAA 1997 was drafted to interact with Division 40 of the ITAA 1997 in the same way it had interacted with former Division 42 of the ITAA 1997. Thus one would be led to expect that 'acquiring a depreciating asset' under Division 58 of the ITAA 1997 would have effect for the purposes of covering the intended range of scenarios under which an entity is a holder of the depreciating asset according to section 40-40 of the ITAA 1997. This view is supported by the clear policy objective that Division 58 of the ITAA 1997 be applied consistently irrespective of whether the transition occurs by way of entity sale or asset sale. Under an entity sale situation, Division 58 of the ITAA 1997 affects the way Division 40 of the ITAA 1997 applies to depreciating assets held by an entity (under any item in the table in section 40-40 of the ITAA 1997) upon its income becoming assessable. A requirement in the application of an asset sale situation for holding of a depreciating asset by a taxpayer under one specific item in the table in section 40-40 of the ITAA 1997 (for example, under item 10 in that table) would be inconsistent with the clear policy objective of Division 58 of the ITAA 1997. An approach to interpretation of Division 58 of the ITAA 1997 that applies the holding rules in section 40-40 of the ITAA 1997 inconsistently between the entity sale situation and the asset sale situation would defeat this underlying policy. For the reasons outlined above, the Commissioner considers that a requirement in subsection 58-5(4) of the ITAA 1997 that a purchaser 'acquires' a depreciating asset from an exempt entity should be interpreted as satisfied where a depreciating asset of an exempt entity starts to be held, according to section 40-40 of the ITAA 1997, by the purchaser. This interpretation is consistent with the entity sale requirement in section 58-5 of the ITAA 1997 which is satisfied where the income of the exempt entity which holds the asset becomes, to any extent, assessable. It follows then that Division 58 of the ITAA 1997 applies to a depreciating asset which a purchaser starts to hold under any item in the table in section 40-40 of the ITAA 1997, where the asset is brought into the tax system. This view is supported by paragraph 4.40 of the Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 4) 2002 which introduced consequential amendments to the Division and which (to the extent it is relevant here) states: Division 58 sets out special rules that apply in calculating deductions for the decline in value of depreciating assets and balancing adjustments for assets which were held by an exempt entity and are subsequently held by a taxable entity. In this case, despite not being the legal owner of the leased assets that are depreciating assets, the company starts to hold the depreciating assets under item 2 of the table in section 40-40 of the ITAA 1997 when it becomes the lessee of the depreciating assets affixed to land with a right to remove the assets. Immediately before the company became a holder of the leased assets, the depreciating assets were held by an exempt entity. In these circumstances the company 'acquires' a depreciating asset from an exempt entity as required in paragraph 58-5(4)(a) of the ITAA 1997. Paragraph 58-5(4)(b) of the ITAA 1997 requires that the depreciating asset be acquired in connection with the acquisition of a business from the exempt entity. Section 58-10 of the ITAA 1997 provides four circumstances when an asset is acquired in connection with the acquisition of a business. The owned assets and the leased assets must meet one of these four circumstances. Paragraph 58-10(2)(a) of the ITAA 1997 covers situations where the exempt entity uses the asset in performing functions or engaging in activities that do not constitute the carrying on of a business by the exempt entity and the asset is used by the purchaser or another person to continue to perform those functions or engage in those activities as part of carrying on a business. Mason J in Hope v. The Council of the City of Bathurst (1980) 144 CLR 1 at 8 - 9; 80 ATC 4386 at 4390; (1980) 12 ATR 231 at 236, indicated that the carrying on of a business is usually such that the activities are '... engaged in for the purpose of profit on a continuous and repetitive basis'. In this case, a previous owner/lessee followed policies for its operations with higher goals than earning a profit. It set fees that were not sufficient to cover its costs. These circumstances indicate that the relevant previous owner/lessee was not carrying on a business. The company is a public company whose business relates to the ownership or leasing of infrastructure. The company continues to perform the functions previously performed by the earlier owner/lessee in carrying on its business. In this case, it is considered that owned assets and the leased assets meet the circumstances of paragraph 58-10(2)(a) of the ITAA 1997. Therefore, the company acquired these assets from an exempt entity, in connection with the acquisition of a business, pursuant to section 58-10 of the ITAA 1997. Accordingly these assets are privatised assets subject to the rules in Subdivision 58-B of the ITAA 1997 which affect the way in which the company works out the decline in value of the privatised assets under Division 40 of the ITAA 1997. Pursuant to the Lease, 'the lessor leases to the company and the company takes a lease of the Infrastructure for the Term.' Whether a composite item is itself a depreciating asset or whether its components are separate depreciating assets is a question of fact and degree to be determined in light of all the circumstances of the particular case (subsection 40-30(4) of the ITAA 1997). The Commissioner's views in Taxation Ruling TR 94/11 (TR 94/11) are a guide to what represents a separate unit or item, and are relevant in determining whether, as a question of fact and degree, a composite item is itself a depreciating asset. An item is generally itself a single item (rather than being a number of separate units) if it has one or more of the characteristics listed at paragraph 3 of TR 94/11. The basic test put forward in TR 94/11, on the basis of the authorities summarised therein, is a 'function test'. The ruling contains guidelines about the function test and explains how it must be applied to the particular factual circumstances of each case. A composite item is itself a depreciating asset that has a separate function, and is functionally complete in itself, even though it may not be self-contained or isolated. The function of the thing being considered need only be separately definable or identifiable rather than be self contained or isolated, and be capable of performing its own intended discrete function. The relevant types of function that the item performs are those that are sufficiently complete, definable and identifiable so as to give the item subjected to those uses the characteristics of a single depreciating asset in respect of the taxpayer's operations. The infrastructure is formed by combining or linking a number of constituent components in a particular integrated or interdependent way. The function can only be performed by the integration of all the components in a particular way. While some components can be physically separated and perform their own functions, they cannot operate by themselves. They are integrally linked to create a single larger item having its own discrete function in respect of the taxpayer's operations, and in such a way that they have to all exist to perform the function of infrastructure. Based on this functionality the entire composite item, rather than each of its components, is considered to be the depreciating asset. The infrastructure is a depreciating asset within the meaning of that term at section 40-30 of the ITAA 1997 because it is considered that it has both a limited effective life and can reasonably be expected to decline in value over the time it is used. When a composite item is being constructed it becomes a depreciating asset at the time that it commences to serve a functional purpose in respect of the operations being conducted. Division 58 of the ITAA 1997 sets out special rules that apply in calculating deductions for the decline in value of a depreciating asset under Division 40 of the ITAA 1997. Subsection 58-5(4) of the ITAA 1997 defines an asset sale situation. The definition is satisfied where an entity whose income is assessable acquires a depreciating asset from an exempt entity (paragraph 58-5(4)(a) of the ITAA 1997) and the asset is acquired in connection with the acquisition of a business from the exempt entity (paragraph 58-5(4)(b) of the ITAA 1997). In an asset sale situation, a depreciating asset the purchaser acquires from an exempt entity is a privatised asset. Under section 58-65 of the ITAA 1997 a taxpayer that is the purchaser of a privatised asset can choose to use the PABV of a privatised asset as the basis of its deductions for the decline in value of the asset under Division 40 of the ITAA 1997. Under section 58-85 of the ITAA 1997 the PABV of a privatised asset is taken to be the specified value shown for the privatised asset in the balance sheet, at the relevant balance date, of an exempt entity where the conditions in paragraphs 58-85(1)(a) to 58-85(1)(c) of the ITAA 1997 are satisfied. Subsection 58-85(2) of the ITAA 1997 allows a PABV to be attributed in circumstances where a balance sheet did not specify an audited book value for a privatised asset but specified a total value for two of more assets that include the privatised asset. In that situation, so much of the total value as is reasonably attributable to the privatised asset is taken to be its PABV. In this case, the method and process the company used to attribute a portion of the total audited book value specified in the balance sheet for numerous infrastructure assets to each privatised asset is accepted as a 'reasonable attribution' of that total value for the purpose of subsection 58-85(2) of the ITAA 1997 because: · relevant market valuations are not available for each of the assets (including the privatised assets) included in the balance date total audited book value for the asset group; · expert data analysis and engineering techniques were utilised in order to estimate how much of the construction cost would have been paid for each privatised asset; · the approach and process used is consistent with established industry practice; and · it is reasonable for the purchaser to attribute a portion of the total audited book value to each privatised asset based on the relative portion of total construction cost that the exempt entity would have been paid for each privatised asset.