Private ruling: Expenses associated with holding vacant land
Date of advice: 21 October 2022
Published: 9 January 2023
Ruling period: Year ended 30 June 20XX | Year ended 30 June 20XX
Date scheme commenced: 1 July 20XX

Ruling: Q1: Do the circumstances of the taxpayer fall within subsection 26-102(6) of the Income Tax Assessment Act 1997 in relation to the Property while it is vacant land in the 20XX and 20XX financial years? | A1: Yes.

Relevant facts and circumstances: In 20XX, Individual A (you) purchased an ownership interest in a residential property (the Property). The Property was rented out from the time it was purchased. The Property suffered significant storm damage in 20XX resulting in extensive flood water damage to the building. You repaired damage that was identified however, unknown to you, significant flooding also occurred underneath the building (which was not accessible) and in the walls of the building. The damage became significantly worse over time as the flooding led to a significant amount of black mould throughout the Property and significant deterioration to the foundations of the Property. Flood damage from subsequent large storms also contributed to the deterioration of the building. The tenants had attempted to manage the increasing mould and other water damage issues themselves, for example parts of the ceiling falling in, and it was quite some time before you became aware of the extent of the mould throughout the premises. Over time, as the mould became worse and was unable to be rectified without replacement of structural materials. The rent was materially reduced for the tenant to compensate them for the increasing inconvenience. Advice was sought from a builder who confirmed that the building had become uninhabitable. You provided a letter from the builder. In the letter, the builder advised that the Property would not comply with many of the requirements of the current residential tenancies regulations. The builder stated in the letter that substantial mould from water ingress was visible and confirmed that rebuild may be a better option than completing the necessary remediation work. The tenants were asked to vacate the Property and it was demolished in the 20XX income year. The building of new premises commenced straight away and will continue to be rented out upon completion and for the foreseeable future. You incurred, and will incur, costs associated with holding the land until it's again suitable for occupancy as a residential property in approximately X months time. You provided a list of the costs, being council rates, insurance, interest, land tax and water, and your share of the costs for the 20XX financial year and your share of estimated costs for the 20XX financial year. You are an Individual taxpayer. You are not carrying on a business on the land. The Property is a passive investment. You have not received any type of insurance payment in relation to the damage to the Property. A natural disaster has not been declared in relation to any of the storm and/or flooding events which damaged the Property.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 26-102 | Income Tax Assessment Act 1997 Subsection 26-102(1) | Income Tax Assessment Act 1997 Subsection 26-102(6)

Reasons for decision: Summary: All legislative references are to the ITAA 1997. From 1 July 2019, section 26-102 limits deductions for losses or outgoings that relate to holding vacant land. Outgoings involved in holding vacant land include: • ongoing borrowing costs, including interest payments on money borrowed for the acquisition of the land • land taxes • council rates • maintenance costs Broadly, subsection 26-102(1) denies a deduction for losses or outgoings relating to holding land on which there is no substantial and permanent structure in use or available for use. The Explanatory Memorandum to the Treasury Laws Amendment (2019 Tax Integrity and Other Measures No.1) Act 2019 contains the meaning of 'substantial and permanent'. It states that to be substantial, a building or other structure needs to be significant in size, value or some other criteria of importance in the context of the relevant property; and is not substantial if it only has value as an adjunct to another structure. To be permanent, a structure needs to be fixed and enduring. Subsection 26-102(6) allows an exception where structures have been affected by natural disasters or other exceptional circumstances. The substantial and permanent structure on the land must exist prior to the time the exceptional circumstance occurred. The Supplementary Explanatory Memorandum to the Treasury Laws Amendment (2019 Tax Integrity and Other Measures No.1) Act 2019 (EM) states that the restriction on deducting the costs of holding vacant land does not apply if exceptional circumstances outside of the reasonable control of the entity were to occur which wholly or mainly affects the structure on the property in such a way there is no usable substantial and permanent structure on the land for the purposes of the restriction (paragraph 1.9). At paragraph 1.17, the EM says that exceptional circumstances mean significant and unusual events or occurrences such as natural disasters, major building fires and substantial building defects. They can also involve something that affects the property when first held or is later discovered to be affecting the property that prevents it being used. In the case of residential premises, relevant exceptional circumstances can involve the premises being rendered unable to be made available for rent or lawfully occupied. This could, for example, include the discovery of asbestos or a substantial building defect that render the building unsafe for occupation (EM at paragraph 1.11). The EM goes on to say that a circumstance will be outside the reasonable control of the entity if the entity did not cause the circumstance and there was nothing a reasonable person in the position of the entity should have reasonably done to prevent the circumstance (paragraph 1.17). The exemption applies if the circumstance has the effect of wholly or mainly affecting the structure on the property in such a way that there is no longer a usable substantial and permanent structure, or, if it is residential premises, is no longer able to be either rented out or made available for rent (EM at paragraph 1.18). In certain circumstances you may be excluded from the operation of the section, such as if you use the land in carrying on a business or you are a company. | Detailed Reasoning - Application to your circumstances: The residential building on the Property was not affected by natural disasters. We consider that the effects of the flooding (the extensive black mould and deterioration of the building) are other exceptional circumstances outside your control. There was a substantial and permanent structure on the land prior to the time that the exceptional circumstance occurred as the residence was lawfully occupied and leased. A builder confirmed that the building had become uninhabitable, and it was demolished. We accept that it was the exceptional circumstance that resulted in the usable substantial and permanent structure no longer being on the land. The building of new premises commenced straight away and will be rented out on completion. You do not use the land in carrying on a business and you are not a company. Accordingly, these exclusions are not relevant in your circumstances. The outgoings you incurred in holding the vacant land in the 20XX financial year and expect to incur in the 20XX financial year; being council and water rates, insurance, interest and land tax are accepted outgoings. | Detailed Reasoning - Conclusion: Your circumstances fall within the 'other exceptional circumstances' in subsection 26-102(6). As the exemption in subsection 26-102(6) applies you are able to deduct your share of any loss or the outgoings incurred in relation to the Property while it is vacant land in the 20XX and 20XX financial years.