Private ruling: Repairs

Ruling: Q1: Will you be entitled to a deduction under 25-10 of the Income Tax Assessment Act 1997 (ITAA 1997) for the following expenses incurred on the assets: · replacement of parts · major repairs to engines · replacement of engines, and · re-painting of the assets? | A1: 

Relevant facts and circumstances: You, a company, own rail-related assets. You lease these assets to other rail operators. You have never operated the assets as you do not have the formal accreditation. The assets were made part of the company when it was formed. They were originally manufactured many years ago. Before the company was formed, the owners restored the assets so they would be in working order. The initial cost to the company to acquire the assets was not high. The assets were leased out to other rail operators soon after the company was formed. They are not subjected to heavy usage. You are required to provide maintenance including: · replacement of parts · major repairs to engines · replacement of engines · work on other various components, and · painting to restore the paint work. The assets are only painted every 5 to 10 years. You have not carried out any of these major activities. You expect that most of the above work is necessary either now or in the next 12 - 24 months. Regarding the current value of the engines, you have stated that they were acquired cheaply as they were being sold for scrap. The owners then improved the engines to ensure they were in running order before setting up the company. You have advised that the replacement of the engines and any major repair work will only be done to restore the assets back to their original condition. You have stated that only particular parts can be used in the old assets, otherwise substantial damage would be caused. You will use virtually the same product when doing this major work.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 25-10

Reasons for decision: Summary: You are entitled to a deduction under 25-10 of the ITAA 1997 for the expenses incurred to carry out major work on the assets, including expenses to: · replacement of parts · major repairs to engines · replacement of engines, and · re-painting of the assets? These expenses are not capital in nature as they restore the original function of the assets and are not considered to be improvements, renewal of the entire asset or initial repairs. | Detailed Reasoning - Detailed reasoning: Section 25-10 of the ITAA 97 allows a deduction for the cost of repairs to premises or depreciating assets used for income producing purposes. However, subsection 25-10(3) of the ITAA 1997 does not allow a deduction for repairs where the expenditure is of a capital nature. Taxation Ruling TR 97/23 discusses the circumstances in which expenditure incurred for repairs may or may not be an allowable deduction under section 25-10 of the ITAA 1997. The word 'repair' is not defined within the taxation legislation. Accordingly, it takes its ordinary meaning. Works can fairly be described as 'repairs' if they are done to make good damage or deterioration that has occurred by ordinary wear and tear, by accidental or deliberate damage or by the operation of natural causes (whether expected or unexpected) during the passage of time (paragraph 15 of TR 97/23). Whereas, work done to prevent or anticipate defects, damage or deterioration (mechanical or physical) in property is not in itself a repair, unless it is done in conjunction with making good of those defects, damage or deterioration (paragraph 14 of TR 97/23). While some works may be fairly described as repairs, the expenditure will be considered capital in nature in some situations, and therefore not deductible under section 25-10 of the ITAA 97. Expenditure incurred for repairs to property used for income producing purposes is of a capital nature where: 1. the works result in a greater efficiency of function in the property, therefore representing an improvement rather than a repair; or 2. the extent of the work carried out represents a renewal or reconstruction of the entirety, or 3. the work is an initial repair. | Detailed Reasoning - An improvement: An 'improvement' involves bringing a thing or structure into a more valuable or desirable form, state or condition than a mere repair would do. Some factors that point to work done to an asset being an improvement include whether the work will extend the asset's income producing ability, significantly enhance its saleability or market value or extend the asset's expected life. When considering whether work does more than just restore property to its original function, as a repair would do, the main determinative factor is the actual functionality of the asset and not the functionality of the defective component. Paragraph 91 of TR 97/23 provides an example of replacing cast-iron pistons in an engine with aluminium-alloy pistons. Although the aluminium-alloy is a more modern material for the construction of pistons, the important question to consider is whether the functionality of the engine has been restored or only enhanced in a minor and incidental way. This expense is deductible as a repair as the engine's essential efficient of function has not changed, nor has the character of the engine by the use of marginally more efficient pistons. In your case, replacing the asset's parts and engines and repairing motors with the same or similar materials is not considered to be an improvement as it simply restores its normal functions. Paragraph 92 of TR 97/23 states that some kinds of maintenance work constitute repairs, for example, painting plant to rectify existing deterioration and to prevent further deterioration. Re-painting the assets to restore their appearance is considered to be deductible as a repair under section 25-10 of the ITAA 1997. | Detailed Reasoning - An entirety: TR 97/23 states that a thing or structure is more likely to be an entirety if it is an integral part, but only a part, of entire premises and is capable of providing a useful function without regard to any other part of the premises or asset. The Ruling states that something that is part of a building, for example, a roof or wall, is just that and no more. The building itself is the entirety. In your case, replacing the parts and engines and repairing the motors would not be considered an entirety as these items alone are not capable of providing a useful function separate from the assets themselves. | Detailed Reasoning - Initial repair: According to paragraph 125 of the TR 97/23, a repair after acquisition of property is an 'initial repair' if the repair was due when the property was acquired, in the sense that there was a need for repair to restore or maintain the property's efficiency of function. In other words, the property was neither in good order when it was acquired nor suitable for use for income purposes in the way intended. You (the company) acquired the assets after they had been restored. Therefore, the expenses you have incurred are not classified as initial repairs.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns.